Marc Cuniberti The markets sold off hard on May 4, 2021, reportedly brought about by Secretary Treasury Janet Yellen (Former Federal Reserve Chief 2014-2018) and her comments during an economic seminar that interest rates may have to rise to cool off potential overheating in the economy.
“It may be that interest rates will have to rise somewhat to make sure that our economy doesn’t overheat. Even though the additional spending is relatively small relative to the size of the economy, it could cause some very modest increases in interest rates.”
An overheated economy is a nice way of saying inflation.
Note the comment on comparative stimulus spending being “relatively small compared to the economy”. I would disagree.
Current estimates put U.S. spending on CoVid-19 programs north of 6 trillion dollars. On the table is another 4 trillion dollar in proposed infrastructure spending by Washington (CNBC May 5, 2021).
With the U.S. economy yielding a GDP somewhere in the area of 21 trillion, stimulus spending in the past 12 months amounts to about one third of GDP. If the infrastructure plan is approved, stimulus spending could be closer to 50% of GDP.
Many conservative and liberal economists alike view this percentage as unprecedented. Indeed recent outlays dwarfs all previous government spending programs.
Astute investors and past readers of this column know I have always said that where government spending goes, so goes inflation.
Yellen seems to be acknowledging that possibility and warning a preemptive strike on inflation with higher rates may be necessary. Higher interest rates tend to cool inflation by making money more expensive to borrow for both businesses and individuals.
With the May 4 comment, markets apparently were taken aback and the majority of sectors sold off hard.
Not but a few days later Yellen, who must have been read the riot act by somebody about her comments, backpedaled on the statement, deferring to “I don’t think there’s going to be an inflationary problem. But if there is the Fed will be counted on to address them”.
Yellen likely realized she had an “open mouth, insert foot” moment when markets tanked shortly after her initial statement. Not wanting to let markets fester on the statement, her immediate recantation did not go unnoticed by financial columnists.
What Yellen and other monetary experts know is that trillions in stimulus money will likely lead to inflationary pressures, and Yellen’s warning that rates may rise to combat them is prudent Fed speak.
Markets don’t like surprises, and forewarning policy moves are an attempt to avoid an unexpected rate increase that might cause market panic. Historical precedent reveals many such examples.
Now the concern is since the warning causing a sudden drop in markets, the actual rate increase may cause an even worse problem.
Many argue with such sensitive reactions to every little thing the Fed says, the markets appear to be perched on a precipice on anticipation, and not in a good way.
If true, the Feds may have painted themselves into a very concerning corner.
With the government printing trillions of CoVid relief and infrastructure dollars, inflation may already be baked into the proverbial economic cake.
Stock markets participants, however, may have yet to connect the dots that inflation cometh, and with it, mandated interest rate increases.
Markets hate rising interest rates, as increases choke off the available dollars that would otherwise go into stocks.
With the markets apparently now sensitive to just the mention of such policy moves, when rates actually do occur, markets may react in an even more highly unpleasant manner.
Opinions expressed here are those of Mr. Cuniberti and may not reflect those of any media outlet. Mr. Cuniberti holds a degree in Economics from SDSU. For a list of the services offered by Mr. Cuniberti, call (530)559-1214. California Insurance License #0L34249. Medicare Agent approved. Email: [email protected]. Opinions expressed here are those of Mr. Cuniberti and not those of any bank or investment advisory firm. Nothing stated is meant to insure a guarantee, or to be construed as investment advice. Neither Money Management Radio (“Money Matters”) receive, control, access or monitor client funds, accounts, or portfolios. For a list of the services offered by Mr. Cuniberti, call (530)559-1214. California Insurance License #0L34249 and Medicare Agent approved. Insurance services offered independently through Marc Cuniberti and not affiliated with any RIA firm or entity. Email: news@
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