Does Powell's Plan End in Fire or Ice?

One major investor and one major economist, both of whom predicted the Great Recession crash, give the Fed an “F” for its inflation fight and an “F” for where it is taking the economy.

Fed is a failed inflation fighter

On the one hand, Stanley Druckenmiller, said in the news that the Fed is lighting inflation back on fire and needs to be fighting it harder. Instead, by sounding too soft again, Powell has caused stock and bond markets to significantly loosen financial conditions. That already gave rise to inflation and, as it happens all over again, it will make inflation even worse down the road, which will force even higher rates later on.

Reckless government spending enabled by the Federal Reserve is hurting average Americans … billionaire investor Stanley Druckenmiller said Tuesday.

During an appearance on CNBC’s “Squawk Box,” the head of Duquesne Family Office who made his name betting against the British pound in the early 1990s blasted fiscal and monetary authorities, including Treasury Secretary Janet Yellen and Fed Chair Jerome Powell.

In addition, he called “Bidenomics” a failure and said consumers are paying the price in terms of higher inflation.

“There does seem to be a lot more recognition ... of the fiscal situation facing us. Everybody seems to get it but Yellen, who just keeps spending and spending,” Druckenmiller said. “I think it’s dumb politically because it’s causing inflation and it doesn’t take a genius to figure out that the average American is getting hurt by the inflation.”

That pain, he believes, will hurt Biden’s chances for re-election this year; but given the competition, who knows? The key component of what he said, in my view, however, was this:

Getting markets enthused about rate reductions was a mistake because it set financial conditions “on fire,” he said.

I put that error by Powell in the “beyond dumb” category because, as we see stocks and bonds now back to rallying on re-ignited rate-cut hopes, Powell just kissed his inflation fight good-bye. I’m glad to see a stalwart like Druckenmiller agrees.

“It seemed to me the Fed was in a perfect position. Inflation was coming down, financial conditions were tightening,” he said. “To some extent, I feel like they fumbled on the five-yard line.”

He’s being nice. they fumbled on the five-yard line in the last second of the game on what could have been game point. Just one little tap on the head with a rate hike to make sure markets stayed tight, and the Fed may have crossed the line this year with all the rate hikes in place it would need. Now it is all unraveling again just after it started to correct itself from the serious unraveling that Powell caused back in November. What an idiot! Who knows how high he will have to raise rates in the next round as he pretends all over again that this rise in inflation is transitory.

Though Druckenmiller said his firm was “a major beneficiary” of the jump in asset prices and easing conditions, he still thinks the Fed’s pivot in late 2023 to push harder on the idea that rate cuts were coming was a mistake. The Fed at that point only upped its unofficial forecast from two to three cuts. However, investors interpreted comments from Powell in December to mean that a substantial policy easing was ahead.

I wouldn’t call what the Fed did in late 2023 a “pivot” because there was no policy change nor any promise one was coming, but Powell made a huge communications mistake by simply letting markets believe the hope of a policy change was closer.

As I wrote yesterday, the alternative to Biden is not a wit better, and Druckenmiller agrees there, too, even though he’s a Reagan Republican:

Druckenmiller also didn’t have many good things to say about Trump, who he said was likely to see inflation under his presidency as well.

During his time in office, Trump was a fierce Fed critic and repeatedly hectored Powell and his colleagues to lower interest rates. In addition, Trump advocated heavy tariffs and has indicated he would do so again if he wins in November.

As pointed out yesterday, Trump said he would stimulate the job market more, and his plan for that has always been to badger the Fed into lowering interest as much as he can and to spend huge deficits. We haven’t needed more jobs for some time. We’ve needed more workers.

“With Biden, I’m more worried about stagflation, with all the government spending, with all the tricks that Yellen has been using to manipulate yield curve, with the way the Fed seems to have reignited financial conditions. I think the inflationary outcome could be there,” Druckenmiller said. “But I also fear regulation and everything else preventing productivity.”

“So, I’m basically a guy without a candidate….”

Zero chance of a Fed soft landing

Trump misunderstands the tightness in the labor market every bit as much as Powell does. And that is where the big-name economist, who was one of the few who actually did see the Great Recession coming, came on strong against Powell—not because he’s fighting inflation to weakly but because he’s fighting it too long, so he has already as good as crashed the economy:

An economic consultant who accurately called the 2008 recession has again claimed he is skeptical of the US economy and says a course correction is on the way.

David Rosenberg, the founder of Rosenberg Research, made the declaration Friday, hours after April's jobs report fell short of expectations….

He said the [jobs] data is inconsistent with numbers coming from the Bureau of Labor Statistics' Quarterly Census of Employment and Wages and Business Employment Dynamics datasets, both of which stated the economy actually lost jobs in the third quarter.

It is inconsistent because the Fed’s labor gauges are badly broken. Both the new jobs guage and the unemployment gauge are badly misleading, which I’ve been saying for, at least, two years will cause the Fed to tighten us deep into recession. (Not that inflation is giving it any choice, but the Fed’s misreading of the labor market leaves it no alternative but to keep rates high for longer. Rosenberg says we are already slumping into recession, but we just don’t know it yet because the labor gauges are convincing everyone “the economy is strong.”

Given the disparity, Rosenberg said the data is likely 'overstated - by historical proportions.'

The data will eventually get corrected in revisions, and when they are, expect the bottom to fall out of markets due to severe shock, which will impact the slumping economy even more:

'The revisions will not be coming for another six months and when they do get released, it will come as a shock to the Fed - and to the markets as well,' Rosenberg said of the downward revisions he believes are still to come in the months ahead.

The Fed now intends to stay on the sidelines as it closely watches lagging and contemporaneous indicators that are littered with high error terms,' he added.

'And the longer it waits, the more it is going to have to do on the rates front.

'Shades of 1991, 2001 and 2008 [all over again.]'

Because rising stock prices are based on gross unreality, they will correct to reality when the picture becomes clear as the distorted data is stripped away:

In addition to believing the jobs data is distorted, Rosenberg further claimed stock prices and valuations that have risen in recent months are also disconnected from reality….

As for the inconsistencies between the BLS's datasets, he blamed the method the bureau uses to collect the data - citing how the BLS surveys a sample of businesses to produce its monthly reports.

That, he said, could produce disparities because of low response rates and the Bureau not being able to accurately discern whether a business was shut down.

That is a likely contributor to the distorted gauges, which I’ve pointed out a couple of times here as well. However, the Fed is also misinterpreting what the data even means, thinking the apparent tightness means a strong labor market and, therefore, a strong economy.

Rosenberg, who had worked at Merrill Lynch when he predicted the financial crisis, said the Dow Jones was 'at serious risk now of experiencing the uber-bearish 'Death Cross.'

The Dow, meanwhile, has experienced a startling dip over the past month, seemingly coinciding with Rosenberg's warning.

Rosenburg, however, believes Powell needs to start cutting rates now because the economic damage is already more severe than realized. In another article/video below Adam Taggart interviews Rosenberg, and Taggart says in introducing the interview,

Bad data leads to bad policy, and David thinks the predictable outcome of all this will be the Fed being caught in a mad scramble to cut rates once it realizes the job market is not nearly as “robust” as it currently estimates.

That’s true. The Fed’s induced economic wreckage from fighting inflation will be so bad as to force rapid rate cuts in order to save the economy. HOWEVER, as Druckenmiller pointed out inflation will be worse than it is, so the Fed will be in an impossible jam right when it needs to start the money presses back up. As I’ve stated all along, if it chooses to reduce the economy from a deep recession, it will be pouring gasoline on the already-rising flames of inflation.

Between these two guy’s opposing ideas about what the Fed needs to do, emerges the truth Fed has no game plan that will work. They are stuck between firing up inflation with those rate cuts Powell keeps talking about until searing inflation incinerates the economy or tightening hard enough to get inflation the rest of the way back down, which will completely implode the everything bubble before they get it down, especially now that they’ve managed to get it back to rising again.

The corner they’ve painted themselves into where either thing they need to do makes the other thing much worse is the corner they’ve painted themselves into, which is the natural end of an assortment of emergency plans over the years that never had an end-game. It has been my prediction throughout the dozen or more years I’ve been writing on economics that the Fed’s stimulus program will inevitably end in disaster with either the economy frozen in ice or burned by the fires of inflation, depending on which of the major problems they have been creating they decide to go out fighting.

Whether it is better to die by fire or ice, I’m no more certain than Robert Frost, but either will suffice.

I am glad to see a big-name economist who was one of the very few who saw the Great Financial Crisis coming agreeing with me about just how seriously the Fed has misunderstood the labor market or, at least, about how broken its labor gauges are and about how hard the Fed’s misreading of labor is going to crash the economy as the Fed stays with tightening into recession. If he’s right that we’re going to go out on ice because the Fed stays with spraying cold water on the fires of inflation, then Powell’s plane is going to crash and burn from the ice on its wings. That’s no better than if the Fed fights the sudden appearance of that economic cooling with the gasoline of easy money, so we go up in flames from inflation. Either way, we’re getting burned.

For right now, the inflation battle plan clearly has the upper position in Powell’s actions as his words effectively have taken down a good part of the fire fight, even if he doesn’t actively cut rates:

US Treasuries rallied after Powell pushed back on the need to raise rates even further and signaled cuts were coming as soon as warranted by the data. The gains were boosted on Friday after a government report showed surprising softness in jobs and wage gains last month, adding to other recent evidence of slowing growth.

So, we should crash and burn from a cold economy and hot inflation simultaneously. Can anyone say “stagflation” loud enough for Powell to hear it? There is nothing the Fed can do that will work here. That was baked into their schemes from the beginning. They would keep plowing the snow straight down the road until the pile ahead of the Powell’s plow got so large the plow just couldn’t push it any further because they weren’t pushing any of the real problems off to the side.

To switch metaphors, they have kicked the can all the way down to the end of the road. We’re about to find out what that is like, which is one reason I’m calling this the “Year of Chaos.” Who among us knows what that looks like when we’ve never been down this road before? But I’m sure it isn’t pretty.