Lessons From Jackson Hole
Last week the Federal Reserve Bank of Kansas City hosted its annual Jackson Hole Economic Policy Symposium. The Jackson Hole Symposium had humble beginnings with then Fed Chair Paul Volker only agreeing to attend the inaugural conference in 1982 on conditions that he be spared time in the schedule for fly fishing in Jackson’s legendary streams. The fly fishing has given way to obscure academic discussions, and the conference is now the most anticipated event in the annual Fed calendar with global investors hanging on every word. How times have changed.
The Jackson Hole conference has grown in importance over the years as the main venue where central bankers elaborate on their current thinking and major monetary policy changes are often announced. The 2022 conference, the first in-person event in three years, was much anticipated as a window into how aggressive the Fed intends to be towards their current inflation dilemma.
Fed Chair Jerome Powell capped off the week with a brief presentation that indeed shed light on how the current Fed is thinking. Powell’s speech outlined three main lessons guiding the Fed’s actions.
I. Central banks can and should take responsibility for delivering low and stable inflation.
The price stability component of the Fed mandate has for years benefitted from the disinflationary forces of ever-improving technology and globalization. These disinflationary tailwinds allowed central bankers to focus on full employment mandates with increasingly aggressive monetary policy and little concern of inflationary repercussions. In a supply-constrained world with globalization on the run, the Fed’s dual mandate has become more challenging to achieve, and may at times require sacrifices. It seems unlikely that the Fed can tame the current inflation without meaningfully slowing aggregate demand by sacrificing, to a certain degree, their full employment mandate.
II. Inflation expectations can become self-fulfilling.
Inflation feeds on expectations and can become self-fulfilling if consumers shift forward purchases for fear of higher future prices. The fear-driven spike in short-term demand, particularly when supply of crucial commodities is tight, can lead to persistently high inflation. Workers expectations of elevated inflation often creates pressure for higher wages as well. Higher wages in response to challenging inflation risks spurring what economists call the “wage-price spiral” whereby increasing wages leads to increased nominal demand which leads to yet more inflation. The risk of a wage-price spiral is why central bankers currently appear more focused on taming inflation as opposed to maximizing employment.
III. History suggests the Fed must tighten policy until the job is done.
Nobel Prize winning economist Milton Friedman maintained that monetary policy operates with “long and variable lags.” It takes time for the effects of monetary policy to work through the economy, and short-term perspectives can lead policymakers astray. Previous Federal Reserve Chairs William McChesney Martin and Arthur Burns learned this lesson the hard way in the 1960s and 1970s as premature policy easing allowed inflation to linger. Two decades of painfully high inflation resulting from “Stop-Go” monetary policy ultimately required the steel resolve of Paul Volker. The larger-than-life Fed Chair’s aggressive policies indeed “broke the back of inflation,” but at the cost of a brutal recession in the early 1980s. Jerome Powell fancies himself a Volker-esque Fed Chair, but for history to share that view he must first avoid being Arthur Burns.
Our read from Jackson Hole is that the Fed is committed to reducing inflation. History suggests that to do so monetary policy will need to be tighter and for longer than current market pricing implies. Chair Powell has repeatedly indicated that inflation is the Fed’s current priority in their dual mandate of price stability and full employment. An inflation-focused Fed suggests that monetary policy may be less responsive to slowing growth and rising unemployment than most market participants have become accustomed to in recent years. The “Fed Put” is ever present in markets, but the Fed is telling us that it’s further out of the money than most think.
The information above is for educational and illustrative purposes only and does not constitute investment, tax or legal advice. No offers to sell, nor solicitation of offers to buy any securities are made hereby. Solicitations of investments and any offers to sell securities, if any, will be made only through an offering document clearly identified as such. Certain of the statements in this document are forward‐looking which cannot be guaranteed. These statements are based on current views and assumptions and involve known and unknown risks and uncertainties that could cause actual results or future performance to differ materially from those expressed or implied in such statements. OFG-2208-23