On the first day of Economics class as a Freshman at The Wharton School of Business, Prof. Levine wrote on the big chalkboard in a lecture hall full of about 200 other students: Y = C + I + G. (It was too early to introduce X – M). Where Y = Aggregate Demand or Gross Domestic Product, C is consumer expenditures, I is capital investment spending and G is Government Spending. Parenthetically, X is exports and M is Imports. Keep that formula for GDP in mind.
So yesterday we got another dose of interest rate tightening by the Federal Reserve. As expected, the Fed added another 75 basis points (3/4%) to its target interest rates. Their reasoning is that interest rate hikes can reduce the current four-decade high rates of inflation.
However, the Fed forgot two key ingredients to rising inflation: surging wage costs and a hot economy. Well, neither exist in the current economic environment. What is causing the high rates of inflation right now?
To begin with, poor energy policy here in the USA led to surging crude oil and gasoline prices. However just two years ago we here in the USA were energy independent and crude oil and gasoline prices were at meaningful historical lows. If oil prices have recently declined, it is due to two reasons: i) demand destruction and ii) massive release of the Strategic Petroleum Reserve (SPR). Please note that the SPR was intended primarily for use during periods of emergency shortages such as war or natural disasters. According to the US Energy Information Administration or EIA, the SPR is now at its lowest level since the 1980s. See the chart below from the EIA’s website.
Continued release of the SPR will just be more energy mismanagement.
The second cause of surging inflation is massive government spending – the G above. Not only does the Fed not have the ability to control G; the Fed Chairman does not have the backbone to call out the out of control (and in my opinion, useless) government spending in the last two years. It is hard to pinpoint exactly how much, but multiple mainstream sources (including the New York Times) place the total at somewhere between $6 to $8 trillion. So, what is the Fed trying to do? Destroy the C and I part of the equation by raising interest rates. The economic conditions that Chairman Paul Volker faced forty some odd years ago are different than what we face now. So, let’s stop trying to put a “Volker fix” on today’s problems.
Then to add insult to injury, yesterday Powell gave the market more talk of economic pain reiterating his now famous “pain” speech at Jackson Hole in August, which led to the beginning of the most recent stock market downturn.
The stock market was on a roller coaster ride all day Wednesday and was rising to nice fresh highs until Powell uttered “pain” again and sent the market in a near 3% dive to end the day in the red. Either he is insensitive, an idiot or perhaps both. Then again what should we expect out of Washington?
The time to have commenced interest rate tightening was in 2021 once the economy was emerging from the pandemic. A few ¼% tightenings in 2021 and early 2022 would have prevented the super-sized tightenings in 2022 and the “pain” we all must deal with now.
What would my recipe be now for economic and inflationary repair?
- Return to pre-2021 energy independence policy and place CO2 penalty taxes on private jets. Guess what, the USA has seen major declines in per capita CO2 emissions since the year 2000. Have some fun and look it up yourself. Of course, you won’t hear that from John Kerry or Leonardo DiCaprio as they jet around the globe in their private CO2 emitting planes. There is nothing wrong with being more energy efficient or “green” in the USA (my main residence will soon be generating 90-110% of our electric needs) but we were already on the road to that. We need voluntary migration not government mandates. Now, if you own an electric vehicle in California, which will soon be mandated, you are being limited as to when you can charge your car. That’s OK, as bad as the market may be, we are comfortable in our long-term investments in green energy holdings such as Tesla (TSLA) and Enphase (ENPH).
- Stop raising interest rates for reasons as I explained above. The more the Fed raisins rates now, the faster it will have to cut rates in the future.
- Stop the out-of-control spending. That will not happen until there is a balance of power in Washington. Mark election day on your calendar because it could put a meaningful bottom on the markets.
- Fire Jerome Powell: wishful thinking, I know but we are allowed to fantasize every occasionally.
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Disclosure: At the time of this commentary Scott Rothbort, his family and/or clients of LakeView Asset Management, LLC was long ENPH and TSLAL- although positions can change at any time.
Scott Rothbort is the President & Founder of LakeView Asset Management, LLC, (LVAM) an investment advisor representative, specializing in high net worth private wealth management. LVAM is affiliated with Kingswood Wealth Advisors Services, a registered investment advisor. For more information on investing with LakeView Asset Management, LLC call us at 888-9LAKEVIEW or request more information by clicking on the contact button on the top right-hand corner of the website. LakeView Management, LLC is a Nevada LLC, with its principal office located in Henderson, NV and branch office located in Millburn, NJ
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