4.24% headline CPI + 6.5% headline PPI = 'Temptation' to Hike FFR.
However, in light if the geopolitical events over the weekend as regards the illegal Iran war with the formulation of the MOU (actual full document yet to be released) pausing seems appropriate until actual deflation becomes manifested by a few negative MoM prints in CPI, PPI and PCE.
I'm guessing, but I could be wrong, you also factored that into your same opinion to hold.
As you know, I've believed that this war will not end until Trump is ousted from office, particularly since he's lied about an agreement with Iran 38 previous times.
The bond market seems to agree by exhibiting essentially zero reaction to the meaningless MOU. Otherwise, conviction in a settlement would likely have driven a massive rally causing yields to tumble.
Gonna be interesting to see who on the FOMC votes for what. Then any 'Temptation' to hike rates will be known.
2 per cent inflation is a silly target, chosen by an obscure NZ politician as the lowest he could get away with, in a decision which sent NZ on a path of permanent relative decline. It cripples policy whenver negative real rates are needed. Now it is producing unjustifed contraction in response to a supply shock
While the 2% target is arbitrary, it's extremely rare that negative real rates are needed. On those rare occasions when they are needed, we have far bigger problems to deal with than an arbitrary inflation target.
Given that the US Congress is no longer capable of setting a rational fiscal policy, it is too risky to reduce the scope for monetary policy in the event of a serious crisis and subsequent recession.
In the era of useless fiscal policy, i.e. this century, interest rates have had to swing precipitously in response to changed momentum of the private sector. And when the ZLB was hit, QE was not very effective. Mostly these observations tell us the limits of pushing on a string, but I still think it prudent to choose momentum, meaning AD growth sufficient to ride out minor slumps, over stability that repeatedly turns out to be transitory.
The problem, actually two problems, is that AD has a ceiling - especially when real wages are down, as they are now. The second problem is that AD growth can exacerbate supply shocks - as we're experiencing today.
Fiscal policy is only useless at this time because the one in charge of it, Treasury Secretary Scott Bessent, is a smug, smirking centimillionaire who does whatever Trumpkopf wants - even if it's clearly bad policy.
I think the exacerbation of supply shocks to which you refer is an exaggeration of inflation. I consider that an appropiate choice to facilitate the necessary real adjustments. The alternative would be unemployment, and I do not agree with von Mises, et al, that unemployment helps real adjustments. I’m not sure what limit on AD you refer to. Bumping against AS constraints? Perhaps you could say more.
First, demand is constrained by what people have to spend, although you could argue that an overflow of supply would lower prices thus increasing demand. You could also argue that the wealthiest can always spend more - but is that really the kind of economy we want?
Second, I agree that deliberately increasing unemployment is not a viable approach, hence the reason I believe the Fed should just stay the course, for now. We're in an inflationary period, but it's not based on normal economic forces, so increasing rates would not likely be a healthy approach right now.
The current employment numbers aren't terrible right now, but they're not great either. One could argue lowering rates could boost employment - it usually does more or less - but it also pushes inflation higher, the last thing we need right now.
Plus the abnormal AS shock we're experiencing hasn't fully worked its way through the system - higher prices are still yet to come.
Thus, the Fed is rather stuck in a holding pattern for the time being, and it would probably be best for them to just wait and see where things go from here, because we don't really have any way of knowing. This is not a good time to alter interest rates in either direction.
FFR was at zero lower bound for most of period 2009-2022. That is, about one third of the time since Fed adopted inlfation targeting. Same for other central banks
I don't follow your second point. It's precisely because we have big problems to deal with when we hit the ZLB that the loss of the interest rate tool is a problem.
My point is twofold, first that the inflation target doesn't eliminate the interest rate tool. We can hit the ZLB again, if need be. We can also, if need be, restart quantitative easing. Second, if such drastic measure are needed, it means we're in deflation.
Dr Sahm, one piece of this inflation story that keeps getting flattened in public debate is the "energy‑logistics nexus". The stubborn part of inflation isn’t coming from abstract expectations or some mysterious “supply chain disruption.” It’s coming from the physical energy inputs that move food and goods: diesel, jet fuel, gasoline, and increasingly electricity.
Food inflation is energy in production and logistics inflation.
Goods inflation is logistics inflation.
And logistics inflation is overwhelmingly "distillate‑driven".
Diesel and jet fuel require LESS energy to refine than gasoline and make up the largest fraction of refinery output. If fracked crude has changed the yield mix, fine, show the data. But the industry’s explanations don’t match the physics. Every time distillate prices rise, we get hand‑waving about disruptions. Yet the pattern is too consistent and too profitable to be accidental.
Meanwhile, the electricity side of the system is tightening, and that matters more than people realize. AI data centers are adding massive new load. Food processing is shifting toward more refrigeration, more freezing, colder‑chain logistics. Grocery stores are running more cooling capacity than ever. All of that electricity demand feeds directly into the cost of goods.
So, when we talk about “sticky inflation,” we’re really talking about sticky energy costs -- both liquid fuels and electricity -- and the pricing power of the firms that dominate those sectors.
And here’s the part I don’t think we’re being honest about:
The oil industry was genuinely frightened by the acceleration of electric transportation. They saw the demand curve bending. They saw the capital markets shifting. And they responded the way concentrated industries always do when threatened-- by raising prices to whatever the market will tolerate and blaming it on geopolitics or logistics. They also invested in a President who promised to kill global warming mitigation. The history was well publicized.
If we want to understand persistent inflation, we should stop taking industry narratives at face value and start looking directly at refiner margins, distillate spreads, and electricity‑sector profits. The data will tell a clearer story than the talking points.
This is why your work matters. The Sahm Rule tells us when labor markets are turning, but the deeper structural economic forces -- energy, logistics, and concentrated pricing power -- are what keep inflation elevated long after the shocks fade.
Thank you for sharing your expertise and experience.
How much of the inflation now is tariff-related? Now, tariffs have had a chance to embed in prices, so there should be a net effect. Also, tariffs caused a supply chain perturbation, which would increase embedded costs for manufacturing, also likely embedded. If the net of these effects is, hypotheticallly, 50 bp, then how should the Fed be dealing with what is really 3.6% inflation?
If inflation is coming from energy shortages, conflict, tariffs, supply bottlenecks, etc., then higher interest rates do not create oil, natural gas, shipping capacity, housing, food, or productive capacity. Sahm partly admits this, but then reopens the door to hikes because inflation has lasted too long. Duration does not magically convert a real-resource or supply-price problem into a demand problem.
A longer supply problem calls for supply, fiscal, regulatory, and distributional tools, not a broader demand squeeze.
Sounds like a job for Congress not the Fed. Yes, I know, maybe Congress doesn’t care (or don’t know they could), but then the Fed can’t help either. They don’t and never did have the tools. From my perspective, inflation management should not be the Fed’s job (and neither employment management).
Instead the Fed should stick with what they can really do for our society, which is maintain a stable payments system, clear interbank payments, act as lender of last resort, and support the Treasury’s fiscal operations so Congress’s authorized spending can be carried out smoothly.
Correct. Keep in mind the Fed has other mandates other than inflation and employment as I mentioned above. Those are the mandates they can actually do.
The Fed could raise interest rates like Volcker did in 1980 up to 20% to crush the economy and send it tumbling into a recession that raised unemployment to 10%. So, yeah, it can be done. Volcker didn't “solve” the mid 1970s oil shock by producing more oil or fixing the supply side. He crushed demand hard enough that firms lost pricing power, workers lost bargaining power, credit contracted, investment fell, and unemployment surged. Thanks Fed.
Probably not. Congress gave too much macroeconomic responsibility stuff to an institution with the wrong tool. So, you point is spot on. It's Congress' fault, not the Fed.
It's fairly safe to assume that the Trump admin will continue to do stupid things; it's their superpower. As such, since the "stupid things" are almost always inflationary, the Fed should "look through" the current inflation, and see the prospect of - more inflation.
The best approach to inflation is getting rid of felon tRump and his regime. We probably have not seen the worst of what this conman has caused yet. I say hold and have an open debate.
The interest on the federal debt has taken on a life of its own ..With debt increasingly being issued in shorter maturity paper a raise in short term rates will hit hard quickly .
The pandemic had much to do with high inflation during Biden's first few years in office. At the end of his first term, monetary and fiscal policies saw it decreasing to almost the Fed target of 2.0%. It ended at 2.9% when Biden left office. He handed felon tRump the strongest economy in 50 years, but felon trump screwed up the downward trajectory of inflation because of his illegal and unauthorized tariffs. It has steadily increased since then, but I think unemployment is still at acceptable levels. Now the after affects of felon tRump's illegal war with Iran is affecting energy prices and also other vital commodities and products that all trickles down to higher prices for us with consumer demand slowing down. I think inflation will be problematic but, for now, I prefer a wait and see on int. rate adjustments with an open debate to inform us what FOMC thinks. I don't have any particular anxiety over interest the govt pays on debt securities. I don't think the govt relies on govt bonds to hit its short-term int rate target. It just announces a new rate.
Warsh is already cutting back on information for investors.
.The Federal Open Market Committee voted unanimously to hold its benchmark federal funds rate in a range of 3.5% to 3.75% in its first gathering with Kevin Warsh in the chair.
Warsh vowed to restore price stability following his first policy meeting since taking the helm of the U.S. central bank. “Persistently high prices are a burden for the American people, but the recent past need not be prologue,” Warsh said in his debut press conference as chairman. Officials “are unambiguous and unanimous. This committee will deliver price stability.”
Which would seem to signal an intention t raise rates to battle inflation.
But maybe not in Warsh-speak.
Warsh played down projections in the Fed’’s quarterly Dot Pot projections from his colleagues showing nine officials foresee at least one quarter-point hike this year, with six anticipating at least two. Another nine expected no move or a cut.
Warsh, who has been critical of the Fed’'s forward guidance, said he declined to submit a rate forecast.
In their post-meeting statement, Fed officials said inflation remained elevated and vowed to deliver price stability.
They continued to characterize growth as “solid.” Officials also described productivity growth and capital investment as strong. The statement was shorter than recent post-meeting releases. Which could be a sign of things to come under Warsh, who has promised to shake up the central bank’s communication strategy.
Treasuries sold off, the dollar rallied and stocks fell after the decision was announced. The 10-year Treasury fell to show a yield of 4.48%, up 4 basis points. Following Warsh’s press conference, traders were fully pricing in an interest rate hike by October.
Raising rates will likely push us into a recession (or at least into employment loss). To the extent that it works, we’d be trading some pain for many (inflation) for concentrated pain for few (unemployment). This will all be dwarfed by the fallout from the AI bubble bursting.
Very thought-provoking piece, SM. I note that you made this statement along the way: "The new inflation largely stems from an energy supply shock due to conflict in the Middle East, but it is layered on top of an overshoot of more than five years."
Do you attribute any of the new inflation to latent effects of the higher tariffs that the administration continues to impose on foreign goods and services? I remember reading recently in several places that some?/many?? domestic businesses have been trying to avoid passing on tariff costs to consumers, but they're nearing the end of their willingness to bear the costs at the expense of profits. The logical result of an end to that forebearance would be increasing prices on imported tariffed goods sold in domestic U.S. markets.
I'm wondering how that might affect the Fed's imminent decision(s) on rate increases.
Hope you're well, Dr Sahm.
4.24% headline CPI + 6.5% headline PPI = 'Temptation' to Hike FFR.
However, in light if the geopolitical events over the weekend as regards the illegal Iran war with the formulation of the MOU (actual full document yet to be released) pausing seems appropriate until actual deflation becomes manifested by a few negative MoM prints in CPI, PPI and PCE.
I'm guessing, but I could be wrong, you also factored that into your same opinion to hold.
As you know, I've believed that this war will not end until Trump is ousted from office, particularly since he's lied about an agreement with Iran 38 previous times.
The bond market seems to agree by exhibiting essentially zero reaction to the meaningless MOU. Otherwise, conviction in a settlement would likely have driven a massive rally causing yields to tumble.
Gonna be interesting to see who on the FOMC votes for what. Then any 'Temptation' to hike rates will be known.
https://youtu.be/Rfu8KBwyDko?is=I4kLeLGeNte3Q1NJ
Trumpkopf can't end the war. There's too much insider trading to be done.
I found this post wonderfully informative. Thanks so much,
Very interesting analysis, Claudia. Much appreciated.
And thank you for the "like."
You were pretty spot on here with what actually happened!
2 per cent inflation is a silly target, chosen by an obscure NZ politician as the lowest he could get away with, in a decision which sent NZ on a path of permanent relative decline. It cripples policy whenver negative real rates are needed. Now it is producing unjustifed contraction in response to a supply shock
While the 2% target is arbitrary, it's extremely rare that negative real rates are needed. On those rare occasions when they are needed, we have far bigger problems to deal with than an arbitrary inflation target.
Given that the US Congress is no longer capable of setting a rational fiscal policy, it is too risky to reduce the scope for monetary policy in the event of a serious crisis and subsequent recession.
In the era of useless fiscal policy, i.e. this century, interest rates have had to swing precipitously in response to changed momentum of the private sector. And when the ZLB was hit, QE was not very effective. Mostly these observations tell us the limits of pushing on a string, but I still think it prudent to choose momentum, meaning AD growth sufficient to ride out minor slumps, over stability that repeatedly turns out to be transitory.
The problem, actually two problems, is that AD has a ceiling - especially when real wages are down, as they are now. The second problem is that AD growth can exacerbate supply shocks - as we're experiencing today.
Fiscal policy is only useless at this time because the one in charge of it, Treasury Secretary Scott Bessent, is a smug, smirking centimillionaire who does whatever Trumpkopf wants - even if it's clearly bad policy.
I think the exacerbation of supply shocks to which you refer is an exaggeration of inflation. I consider that an appropiate choice to facilitate the necessary real adjustments. The alternative would be unemployment, and I do not agree with von Mises, et al, that unemployment helps real adjustments. I’m not sure what limit on AD you refer to. Bumping against AS constraints? Perhaps you could say more.
First, demand is constrained by what people have to spend, although you could argue that an overflow of supply would lower prices thus increasing demand. You could also argue that the wealthiest can always spend more - but is that really the kind of economy we want?
Second, I agree that deliberately increasing unemployment is not a viable approach, hence the reason I believe the Fed should just stay the course, for now. We're in an inflationary period, but it's not based on normal economic forces, so increasing rates would not likely be a healthy approach right now.
The current employment numbers aren't terrible right now, but they're not great either. One could argue lowering rates could boost employment - it usually does more or less - but it also pushes inflation higher, the last thing we need right now.
Plus the abnormal AS shock we're experiencing hasn't fully worked its way through the system - higher prices are still yet to come.
Thus, the Fed is rather stuck in a holding pattern for the time being, and it would probably be best for them to just wait and see where things go from here, because we don't really have any way of knowing. This is not a good time to alter interest rates in either direction.
If they have to reduce rates, they'll reduce rates. If they approach the ZLB and need to include quantitative easing, they will.
FFR was at zero lower bound for most of period 2009-2022. That is, about one third of the time since Fed adopted inlfation targeting. Same for other central banks
I don't follow your second point. It's precisely because we have big problems to deal with when we hit the ZLB that the loss of the interest rate tool is a problem.
My point is twofold, first that the inflation target doesn't eliminate the interest rate tool. We can hit the ZLB again, if need be. We can also, if need be, restart quantitative easing. Second, if such drastic measure are needed, it means we're in deflation.
"Obscure a hawkish shift now, and markets get an unwelcome surprise if the Fed actually moves. The uncertainty itself could add to borrowing costs."
That's a prime reason for the Fed and its officials to provide public information on their thinking.
I wonder what happens to the accuracy of Fed Futures market's implied probabilities of rates absent transparent and frequent disclosure.
Dr Sahm, one piece of this inflation story that keeps getting flattened in public debate is the "energy‑logistics nexus". The stubborn part of inflation isn’t coming from abstract expectations or some mysterious “supply chain disruption.” It’s coming from the physical energy inputs that move food and goods: diesel, jet fuel, gasoline, and increasingly electricity.
Food inflation is energy in production and logistics inflation.
Goods inflation is logistics inflation.
And logistics inflation is overwhelmingly "distillate‑driven".
Diesel and jet fuel require LESS energy to refine than gasoline and make up the largest fraction of refinery output. If fracked crude has changed the yield mix, fine, show the data. But the industry’s explanations don’t match the physics. Every time distillate prices rise, we get hand‑waving about disruptions. Yet the pattern is too consistent and too profitable to be accidental.
Meanwhile, the electricity side of the system is tightening, and that matters more than people realize. AI data centers are adding massive new load. Food processing is shifting toward more refrigeration, more freezing, colder‑chain logistics. Grocery stores are running more cooling capacity than ever. All of that electricity demand feeds directly into the cost of goods.
So, when we talk about “sticky inflation,” we’re really talking about sticky energy costs -- both liquid fuels and electricity -- and the pricing power of the firms that dominate those sectors.
And here’s the part I don’t think we’re being honest about:
The oil industry was genuinely frightened by the acceleration of electric transportation. They saw the demand curve bending. They saw the capital markets shifting. And they responded the way concentrated industries always do when threatened-- by raising prices to whatever the market will tolerate and blaming it on geopolitics or logistics. They also invested in a President who promised to kill global warming mitigation. The history was well publicized.
If we want to understand persistent inflation, we should stop taking industry narratives at face value and start looking directly at refiner margins, distillate spreads, and electricity‑sector profits. The data will tell a clearer story than the talking points.
This is why your work matters. The Sahm Rule tells us when labor markets are turning, but the deeper structural economic forces -- energy, logistics, and concentrated pricing power -- are what keep inflation elevated long after the shocks fade.
Thank you for sharing your expertise and experience.
Good read but what matters is the SEP, because the rest is priced in the STIR market.
How much of the inflation now is tariff-related? Now, tariffs have had a chance to embed in prices, so there should be a net effect. Also, tariffs caused a supply chain perturbation, which would increase embedded costs for manufacturing, also likely embedded. If the net of these effects is, hypotheticallly, 50 bp, then how should the Fed be dealing with what is really 3.6% inflation?
That is a complication, but tariffs are transitory, provided we can extricate the autocrat currently running the show.
If inflation is coming from energy shortages, conflict, tariffs, supply bottlenecks, etc., then higher interest rates do not create oil, natural gas, shipping capacity, housing, food, or productive capacity. Sahm partly admits this, but then reopens the door to hikes because inflation has lasted too long. Duration does not magically convert a real-resource or supply-price problem into a demand problem.
A longer supply problem calls for supply, fiscal, regulatory, and distributional tools, not a broader demand squeeze.
Sounds like a job for Congress not the Fed. Yes, I know, maybe Congress doesn’t care (or don’t know they could), but then the Fed can’t help either. They don’t and never did have the tools. From my perspective, inflation management should not be the Fed’s job (and neither employment management).
Instead the Fed should stick with what they can really do for our society, which is maintain a stable payments system, clear interbank payments, act as lender of last resort, and support the Treasury’s fiscal operations so Congress’s authorized spending can be carried out smoothly.
Duration can lead to increased expectations of inflation, which in turn can affect behavior in a way that increases inflation.
right
So just to clarify your comment, you do not believe the Fed should do either of its dual mandates?
Correct. Keep in mind the Fed has other mandates other than inflation and employment as I mentioned above. Those are the mandates they can actually do.
The Fed could raise interest rates like Volcker did in 1980 up to 20% to crush the economy and send it tumbling into a recession that raised unemployment to 10%. So, yeah, it can be done. Volcker didn't “solve” the mid 1970s oil shock by producing more oil or fixing the supply side. He crushed demand hard enough that firms lost pricing power, workers lost bargaining power, credit contracted, investment fell, and unemployment surged. Thanks Fed.
Are they allowed to pick and choose the things they are mandated to do by Congress?
Probably not. Congress gave too much macroeconomic responsibility stuff to an institution with the wrong tool. So, you point is spot on. It's Congress' fault, not the Fed.
It's fairly safe to assume that the Trump admin will continue to do stupid things; it's their superpower. As such, since the "stupid things" are almost always inflationary, the Fed should "look through" the current inflation, and see the prospect of - more inflation.
The best approach to inflation is getting rid of felon tRump and his regime. We probably have not seen the worst of what this conman has caused yet. I say hold and have an open debate.
It won’t help . It was bad under Biden too .
The problem is far bigger than any President .
The interest on the federal debt has taken on a life of its own ..With debt increasingly being issued in shorter maturity paper a raise in short term rates will hit hard quickly .
The pandemic had much to do with high inflation during Biden's first few years in office. At the end of his first term, monetary and fiscal policies saw it decreasing to almost the Fed target of 2.0%. It ended at 2.9% when Biden left office. He handed felon tRump the strongest economy in 50 years, but felon trump screwed up the downward trajectory of inflation because of his illegal and unauthorized tariffs. It has steadily increased since then, but I think unemployment is still at acceptable levels. Now the after affects of felon tRump's illegal war with Iran is affecting energy prices and also other vital commodities and products that all trickles down to higher prices for us with consumer demand slowing down. I think inflation will be problematic but, for now, I prefer a wait and see on int. rate adjustments with an open debate to inform us what FOMC thinks. I don't have any particular anxiety over interest the govt pays on debt securities. I don't think the govt relies on govt bonds to hit its short-term int rate target. It just announces a new rate.
In the last few months, a 1 Oz gold coin went from $2,000 to $1,700. To me, that’s a significant data point to not hiking. We shall see.
Warsh is already cutting back on information for investors.
.The Federal Open Market Committee voted unanimously to hold its benchmark federal funds rate in a range of 3.5% to 3.75% in its first gathering with Kevin Warsh in the chair.
Warsh vowed to restore price stability following his first policy meeting since taking the helm of the U.S. central bank. “Persistently high prices are a burden for the American people, but the recent past need not be prologue,” Warsh said in his debut press conference as chairman. Officials “are unambiguous and unanimous. This committee will deliver price stability.”
Which would seem to signal an intention t raise rates to battle inflation.
But maybe not in Warsh-speak.
Warsh played down projections in the Fed’’s quarterly Dot Pot projections from his colleagues showing nine officials foresee at least one quarter-point hike this year, with six anticipating at least two. Another nine expected no move or a cut.
Warsh, who has been critical of the Fed’'s forward guidance, said he declined to submit a rate forecast.
In their post-meeting statement, Fed officials said inflation remained elevated and vowed to deliver price stability.
They continued to characterize growth as “solid.” Officials also described productivity growth and capital investment as strong. The statement was shorter than recent post-meeting releases. Which could be a sign of things to come under Warsh, who has promised to shake up the central bank’s communication strategy.
Treasuries sold off, the dollar rallied and stocks fell after the decision was announced. The 10-year Treasury fell to show a yield of 4.48%, up 4 basis points. Following Warsh’s press conference, traders were fully pricing in an interest rate hike by October.
Raising rates will likely push us into a recession (or at least into employment loss). To the extent that it works, we’d be trading some pain for many (inflation) for concentrated pain for few (unemployment). This will all be dwarfed by the fallout from the AI bubble bursting.
Very thought-provoking piece, SM. I note that you made this statement along the way: "The new inflation largely stems from an energy supply shock due to conflict in the Middle East, but it is layered on top of an overshoot of more than five years."
Do you attribute any of the new inflation to latent effects of the higher tariffs that the administration continues to impose on foreign goods and services? I remember reading recently in several places that some?/many?? domestic businesses have been trying to avoid passing on tariff costs to consumers, but they're nearing the end of their willingness to bear the costs at the expense of profits. The logical result of an end to that forebearance would be increasing prices on imported tariffed goods sold in domestic U.S. markets.
I'm wondering how that might affect the Fed's imminent decision(s) on rate increases.