Odd Lots - Adam Posen on the Dangers of Jerome Powell's 'Rifle Shot' Jackson Hole Speech

Episode Date: August 30, 2024

Last week at Jackson Hole, Federal Reserve Chair Jerome Powell delivered a short and powerful speech indicating that it's time for a policy pivot. The goal now, from his perspective, is to prevent further deterioration of the US labor market. His speech didn't delve much into theory or nuance. In this episode, we speak with Peterson Institute President, Adam Posen, who found the speech unsatisfying. He argues that the state of the labor market, while cooling, didn't merit a "rifle shot" approach, such as the one Powell delivered. He explains his concerns and how he sees the risks materializing from here.See omnystudio.com/listener for privacy information.

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Hello and welcome to another episode of the Oblots podcast. I'm Joe Wisenthall. And I'm Tracy Allaway. So Tracy, I don't know if I would describe the mood here at Jackson Hole. So by the way, we are recording this August 23rd, the day of Powell's big speech. I don't know if I would describe the mood as like declaring victory. per se. But I would say on the narrow question of like, is the problem of inflation over, the verdict seems to be yes, it is. I think the big difference for me is last year in 2023.

There was a lot of discussion about the idea of the trajectory of inflation was looking pretty good. The direction of travel was where the central bank wanted it to go. But there was still a lot of caution about the risk of an upside surprise and inflation could come back. And we saw that to some extent in Q1 of this year. But I don't think it was, you know, the degree that necessarily people were worried about in August 2023. But anyway, the big difference this year is I don't really see a lot of talk about that tail risk of inflation coming back. That's right. Yeah. Last year, you know, we were all like here in Jackson Hole looking out at the Grand Teton's and observing. how the two mountains kind of resembled the two spikes in the inflation.

Arthur Burns was sort of looming in the background. Yeah, it was basically the mountains look like a chart of 1970s inflation. It's like, oh, is there another wave? Anyway, most people are like, yeah, okay, the risks are on the labor market side, and there's probably many good reasons to think that's where the risk lies. But look, the Fed is pretty clearly going to start its cutting cycle in September. other than that fact, which is not technically a fact yet, but other than that fact, there is so a tremendous amount of uncertainty. Well, the cutting cycle will look like the speed,

the intensity, how the data will cooperate or not, many open questions. Absolutely. All right. Well, I'm very pleased to say we do have the perfect guest to talk about some of these themes and risks. We talked to him last year and had a great conversation. So like, let's follow up. We're going to be speaking with Adam Posen. He is the president of the Peterson Institute for International Economics, who was also at the BOE for a while. So it's a perfect person to talk about some of these themes. So Adam, thank you so much for coming back on Ovalod. Thank you for working me into your Jackson Hall tour schedule. We got it. We got it. So you were there in the room in the speech. Tracy and I weren't. We were just read it on the

website, although I think actually that's a probably faster, more efficient way to consume his speech than listening to the whole thing. But what was your takeaway? The speech was fine as far as it went, but it didn't go very far, and it should have gone farther. So I think, Joe, he was very clear. The chair was very clear that we've reached the end of their hiking cycle, we're into the loosening cycle, and that their key concern is about a sharp fall off in employment in the U.S. And again, that's perfectly reasonable. The issue is, though, how narrow the speech was. It was narrow in terms of time frame. It was really only relevant for the next couple months. It doesn't touch anything about looking up beyond that. It was very narrow in its discussion not only of

sort of the victory lap, although Powell would never call it that, reflecting on how we got here or going forward in that it basically talked about labor markets, labor markets, and a tiny bit about supply shocks. And it was very narrow in that we're at a conference, which topic is the important issue of monetary transmission mechanism, which in normal people speak, is. is how effective and why our interest rates able to change the course of the economy. And he gave absolutely no hints about that issue. So it was a very limited speech. There are contexts where a very limited speech is good.

Two years ago, Powell gave what I consider a perfect speech. It was a rifle shot. It was only eight minutes long. And all he was saying was they're going to keep going until inflation beast is slain. And that, at that time, with that facing them and then being so far away from where inflation needed to be was the right move. But in the context we are now, where we're not facing a crisis where you're basically doing risk management over the next couple months, which means just trying to balance things, having the rifle shot is to me misleading

the public. It's not a good speech. This is actually something that I've been thinking a lot about. And we should get into the transmission mechanism of monetary policy. But the point you just made about the narrow range in terms of time frame, it does feel to me like the emphasis is very much on the short term at the moment. And there's all the talk about data dependency, which obviously puts the emphasis on the next jobs number. And there's not a lot of forward guidance over the longer term to your point about doing whatever it takes to crush inflation in 2022. Is that what's happening here? I think it is, Tracy, but I extended or nuance it depending on your view in two ways. The first is there has been

this general shortening of the Fed's time horizon. And it's not just the politics, but I think the fear of seeming partisan in the upcoming election is taking it further. But it's also, it's a fundamental change in, I think, the Fed's operating philosophy. So when Bernanke-Laubach, Michigan, and I wrote the book on inflation targeting, or before that when the Bank of England, the Reserve Bank of New Zealand, Bank of Canada did inflation targeting, the emphasis was on what do you think is going to happen to the economy roughly two years out? What is your forecast? And again, if you have some sort of crisis, a financial market crisis, a pandemic, that's different. But the current FOMC seems to have forsaken somewhat deliberately the idea that they should be making a forecast and the idea that they

should be acting on that forecast. And there's a lot of bad forecasts out there. But I think Alan Blander made this point when he was vice chair of the Fed some 25 years ago, if you don't have a forecast, then it's even worse because then there's no discipline on what you're doing. It's just, okay, this is what we're seeing right now. Let's react to that. I find like this idea of the two rifle shots, speech is very interesting because, you know, in 2022, inflation was arguably at crisis levels. And in 2024, there has been weakening of the unemployment rate, but, you know, we're not

at crisis levels of unemployment. employment. So I think that's very interesting and perceptive, that sort of asymmetry of the two rifle speeches. You know, one of the stories for the last several years has been that the labor market was just got way overheated by various measures. There was a lot of focus on the number of job openings. And we've seen quite a change in that. And so one of the things that Powell said specifically was that by some measures, the labor market is weaker now than pre-COVID. levels and there are a number of charts we can bring up that would show this. Why are the concern, then, from your perspective, even looking at the medium term, for example, why shouldn't we just

put the inflation anxiety in the rear view mirror? I think there's several big reasons not to. And just I'm saying this as someone who throughout most of my career and including my time serving at the Bank of England was considered a dove. Yeah. The first and biggest reason is because this is where the narrowness comes in. The labor markets is first among equals in terms of determinants of inflation in the business cycle, but there are equals. There are other things. So productivity growth matters, fiscal policy matters, supply shocks, as the chair mentions, matters, currency matters, trade policy matters. I don't mean you need to do the whole laundry list. But if you're sitting here and we're in a period where productivity growth has been up for

most of the last two and a half years. Is that going to continue? Is that going to fall back? That will have an effect on inflation. If Trump is elected, I don't know whether he is going to be or not, and obviously the FMC cannot talk about that. Yeah. But if Trump's going to be elected, there's going to be massive tariffs, and even more importantly, there's going to be massive deportations of workers. Those are inflationary. Full stop. So acting as though these other facts, factors don't matter, that all the matters since the labor market, I think is misleading. The second reason is because, and this is something where there is a lot of useful discussion, although within the Fed could be more, is interpreting the labor market data.

So, yes, unquestionably, we're not at the very hot labor market we were a year and a half, two years ago. But equally, if you go in levels terms, we're at a multi-year high in labor force participation. and the unemployment level is still well below what we used to think of as full employment. And so to me, that says we may get a recession, but it sure looks and feels like there may not be one, or at least that we're not in it yet. And if you look at the latest GDP data, we're not in it yet. And so it's different. It is different. And this, again, is why I would like a little bit of more complex, nuanced, broader discussion by the chair rather than right now, last few months

of data show labor market softening. Right now, last several months of data show inflation coming down will cut. Yeah, I did think it was interesting. He kind of alluded to the beverage curve, but didn't mention it by name, and then just said, well, openings are falling without mass layoffs and it's normalizing from that perspective, but then didn't actually go into any detail about why that might be. Yeah. And to be fair, Tracy, I mean, I don't necessarily need the chair going into that, even though you and I are geeky enough to care about that. But, you know, as I think we talked about a bit last year. But anyway, Governor Waller, Governor Chris Waller, you know, made some very important contributions a year or two ago talking about vacancies and that. So it, again,

it does matter to have a little bit richer discussion. Canadian women are looking for more. More out of themselves, their businesses, their elected leaders, and the world are out of them. And that's why we're thrilled to introduce the Honest Talk podcast. I'm Jennifer Stewart. And I'm Catherine Clark. And in this podcast, we interview Canada's most inspiring women. Entrepreneurs, artists, athletes, politicians, and newsmakers, all at different stages of their journey.

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Follow leaders with Francine Lacois wherever you get your. podcasts. How are you thinking about the labor market dynamics and how they might unfold at this point? Because there's obviously a conversation at the moment about how quickly things could deteriorate in the labor market. People talk about unemployment being exponential. Once it starts, it can get worse very, very quickly. I think that's a valid concern, but I think the more you look at it, the less worried you get. Oftentimes I'll say something and I say, I hope I'm wrong. In this case, I hope I'm right. So there is, as I know you've discussed, the so-called Psalm rule. Yeah. And to Dr. Somm's credit, she has said very clearly, it's not a mechanistic rule. It may not apply right now. So I give her credit

for being honest about that. When a recession hits, generally unemployment spikes quickly, not like it did in 2020 with COVID, but that is usually the pattern. It goes from very low to very high, accelerates a lot. But that's kind of like saying, you know you're in a recession when you're in a recession. It's not a causal argument. And so you need something, some kind of story that tells you what triggers it to behave that way, the labor market to behave that way. And a lot of the things we're seeing and hearing in the U.S. data aren't consistent with that kind of story. So investment outside of the big tech giants has not been high. Well, it wasn't high basically since 2008. And we've had large expansion since then. We're not seeing

layoffs. And as the chair acknowledged, I mean, that is almost always what you see before a recession. We, in fact, see more people entering the labor force. And as you've noted, we have a revision downward in total number of jobs created from early 2023 to early 2024. But that's another way of saying, well, gee, productivity growth was higher because we didn't revise down GDP, but we revised down the number of work hours. So again, you don't usually, it's not impossible, but you don't usually see a jump in productivity growth right before you have a recession. So, again, I want to distinguish between.

my assessment of the economy and going forward looking out beyond this month versus it's fine for the Fed to cut preemptively given there are low inflation risk right now. You know, since you mentioned it, I kind of just want to jump to this. This time next year, it's very possible that we'll have a president who does not believe that the current institutional arrangement of Fed independence is a good thing. Right. Does this come up in conversations around here? And is there anxiety about it?

I'm certain that that would, is it concept or a thing that would make you in particular anxious? But how much are people talking about it? What's the, what's? This is something you don't talk about. Okay. Or rather, you don't talk about currently sitting officials. Yeah, that makes sense.

But, I mean, all of us in the game, at whatever degree of remove, who are not currently sitting officials, talk about it a lot. So two of my colleagues at Peterson, David Wilcox, who used to be the head of the Division of Research and Statistics, meaning the chief economist of the Fed, has written about very real dangers to Fed independence and how scary it is.

And Morris Hobbesfeld, who used to be chief economist of the IMF, and was on Obama's CEA, has also written about how scared he is for central bank independence in the Fed, if Trump wins. So, I mean, it's a very live issue. But of all the things I would expect current Federal Reserve officials, not going to say any, they're not going to apply on it even in private. Yeah. Because it's just there's no upside to them talking about it. Just going back to the short-termism versus making a longer-term forecast and the importance there. I do have some sympathy with the difficulty of doing that right before U.S. election, where you have

to potential administrations that seem to have very different ideas of what they want to do and how the economy works. How do policymakers take into account or how should they take into account those sort of binary outcomes when making longer-term decisions? Let me try to give you, based on my reading of the history and the current situation, I think there are three levels of response. The first level of response is simply getting underneath the seemingly binary and trying to understand and what the actual policies would be. And this is why my forecast for 2025 is roughly, if Harris gets in, there will be slightly more inflation, slightly more growth, nothing crazy.

And therefore, a lot of the cuts that are priced in for 2025, rate cuts for 2025 are not going to happen. but the Fed's likely not going to have to raise rates. If Trump gets in and he does what he says he's going to do, which we have very good reason to believe he will, then you've got tariffs, deportations, explicit threats to the Fed independence attempts to talk down the dollar, a boom-bass cycle, and fossil fuels through deregulation, then you've got very significant inflation potentially. So if you say, I have no idea who's going to win the election. So if you say 50% Harris basically slight increase in inflation because of fiscal laxity, which I think is going to come because she's still adhering to the assonine,

no taxes on anybody making under $400,000 a year. And then 50% that Trump's going to jump inflation by two to three percentage points. And you average those. You end up with a mean scenario in my view or a modal scenario in my view. that inflation will be up 1 to 1.5% by this time next year in a very visible way and no recession. So if I'm forecasting, that's where I'm going. So then second point is, how does the Fed deal with that? There are two things you can do. The first is you can, like the Fed does on all kinds of things, make vague warnings that appeal directly to fundamental economic principles. So Chair Powell to his credit,

at some point in the last couple months said, you know, having positive migration was part of why we got the soft landing. It was good supply shock for the U.S. So you go one step further and say, you know, if we reverse migration, it would be in economic terms of negative supply shock to the U.S. or tariffs. You know, could be all kinds of reasons trade policy gets set, but in terms of inflation, it's very clear what happens when you do tariffs. you say that. And then the third thing, which goes back to the forecast idea. So if, as the Bank

of England and a number of other central banks do, you are doing a quarterly or a semi-annual, or whatever it is, regular release and update of your forecast, your committee's forecast, you can build in some fudge factors into the forecast where you don't say what they are. so nobody can take a paragraph and snapshot it and say you're being anti-Trump or anti-Harris, but just build it into the forecast. And since we're not, the Fed is not doing that, they can't do that. I'm going to ask a random question. Maybe you won't even want to answer.

What's, I'm trying to, I'm going to try to think about how to ask this politely. From an American perspective, when I, when we look at what's going on in the UK, it always just seems like one mess after another, and they had to go through all these different leaders and all these like weird scandals about who is at a random party or whatever, et cetera, that I don't understand. What should Americans know about how the UK works that we don't? Having served on the Monetary Policy Committee, I read these headlines and the telegraph. I don't get it. What do I, as an American, what should I know about how England UK works?

I don't think an American or even an American investor or well-informed person needs to know that much about the UK. Well, that's a good answer. I mean, I think there's, that's cutting. No, no, but I mean, I think, you know, and it's very hurtful to friends of mine in the UK, but it has interesting lessons like a lot of countries do for economic policy general. There are a huge number of cultural and other exports we get from the UK that you want to think about and be interested in. There is a genuine special relationship, as it's called, on national security issues in terms of sharing not just intelligence at a very detailed level, but there are boots on the ground, usually

from British troops like they were in Afghanistan and Iraq when we went in. But in terms of economics, basically- In terms of like institutional structure and everything. Well, I mean, the deal is they changed the rules on elections a while back, which meant that they're now a hybrid between a presidential system and a parliamentary system. So in a parliamentary system, if people lose faith in the government, you have a cabinet reshuffle and you normally have a question called and the government turns over and you get a new government. In a presidential system, at a certain fixed interval, you get a new government. They push through under David Cameron a change so that Now, if you lose the faith of the rest of the parliament or the faith of the people, you don't

automatically have an election. You have a fixed term until the next election. But yet, it's a parliamentary system, so it does have turnover and who's on top. Anyway, the upshot of all this is this is why you like having independent institutions like the Bank of England to try to keep things under control, even if the government keeps cycling. Canadian women are looking for more. More out of themselves, their businesses, their elected leaders, and the world around them. And that's why we're thrilled to introduce the Honest Talk podcast.

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Since Joe asked a random question, do I also get to ask a random question about the BOE? What happened to the fan charts, the inflation fan charts? Do you remember those? Oh, indeed, the rivers of blood. I remember discussing with the people who created the fan charts.

The fan charts, for those who don't know, is they were an attempt to show graphically, not just the central point of the macroeconomic forecast, but a probability distribution. So the idea there were these colored bands and whatever color they were, red, blue, green, towards the center of the most likely part of the forecast, they would be a darker color,

and then they would go out from there, lighter and lighter colors. And they were never perfect, but they were an attempt to say there isn't just a point estimate forecast. There's a range of probabilities. You were capturing that uncertainty to your point earlier. Exactly.

And you were able to make the fan chart, say, asymmetric. So the balance of risks is much more towards the inflation or towards the disinflationary side. What ended up happening was they did it a long time, and the general public never seemed to latch on to it. And then financial markets would, as they are want to do, keep trying to deduce very specific things from within the fan charts by like measuring the wood. the bans and trying to calculate backwards what caused the fancharts to be the way they were. So, and I think the Bernanke review of the Bank of England took some issues with this and had some recommendations and how to change it. The bottom line, though, I think, is of why the fancharts were there is right, which is, even if you agree with me and you want the central bank

to have a clear forecast, you don't want the forecast to be next month or next year, or next decade, inflation will be 2.7%. You want it to be a little more scenario-ish, if that's a word, than just that. So I think I have just one last question, but Tracy mentioned a certain binariness of this electoral outcome. There is a sense of part in which there's alignment, which is on the question of trade with China specifically, which has been one of these topics in which a rare sense of bipartisan agreement that a hard line on things like imports or tariffs or technology exports or things like that is good. And when we talked to you last year, you're quite concerned about some of these policies and some how they could get worse with

very serious consequences in your view. Here in August 24, and that's more or less continued and every once in a while every few weeks, there's another headline about export technology export controls or whatever. What's concerning to, where are we on this path and how dangerous is it right now, too? I think, Joe, it's a pretty dangerous path because, as you said, there has been an extreme convergence between both the Trump camp and the Harris camp between different party members in Congress on very great deal of wariness, if not anger against China and a desire to keep ramping up technology export controls, economic challenges, and so on. Why is this dangerous? It's dangerous to me for two reasons. The first, and actually the more important one is it reinforces this

so-called security dilemma narrative, that if I'm convinced China's trying to do the U.S. in, I'm going to take actions either preemptive or defensive and want to deprive them of various things in hopes of weakening their ability to harm me. And then when I start doing that, the Chinese say, well, the U.S. is out to get me. So I have to take measures and preempt and defend and do this. And that's mostly usually talked about in a more strictly military security context, but I think here and now, the economics is reinforcing that. And so I worry it pushes us towards a conflict that may be unavoidable. Again, none of this for me is because I think the Communist Party of China

our president Xi is doing good in the world or that I'm deluded into thinking they only have good thoughts towards the U.S. economy. But it is this realm now of escalation and groupthink in both capitals, Washington and Beijing, that they're out to get me, that is reminiscent of times in the Cold War, that's reminiscent of other times in U.S. foreign policy history, when we've done things that probably were self-harming and dangerous. The other side is the pure economic that there are a lot of issues to have tension with China about. The one that currently gets the most attention is the so-called issue of overcapacity. Yeah. That they are able to produce vast amounts of

steel, electric vehicles, solar panels. Yeah, there's a list. It's a very long list. It's a very long and that they do this having cheated by putting in huge industrial subsidies and not letting other people, including U.S. exports into their country and they've forcibly extracted or stolen intellectual property. Anyway, I think there's a measure of truth in all of those accusations, but I also think they're not the whole story. China's ability to produce a very reasonable, functional electric vehicle that they can sell at $5,000 a year isn't just due to subsidies. It isn't just due to cheating. And as a number of China experts have pointed out, yeah, they're pretty aggressive towards

foreign producers, but they've got a huge competition within China. There are many, many producers. It's not just B.YD. And Tesla. I got a giga factory. Yeah, exactly. So, you know, the story isn't quite as all one-sided. as the Americans make it out to be. But there is an issue that China's growth is slowing down

for the reasons I wrote about a year ago in Foreign Affairs, and we talked about, and they are looking for other places to do growth, and so they want to export lots of this stuff. And usually the economist's response to that is great. You want to give us basically free solar panels, and we get faster adoption of green tech. Why not? And so where the rubber hits the road is the discussion of what is the damage of in each industry, China getting a dominant position for some amount of time. And on EVs, there's a huge amount of emotional, political, national security, all kinds of reasons why Americans and even Europeans don't want to have large numbers of Chinese EVs. but we have to at least recognize that, that setting back the pace of our green technology revolution, quite a bit.

Adam Posen, thank you so much, so glad we were able to make this happen, and maybe we'll do it again next year here. It'll be an annual event, at least, at a minimum. Oh, you're so sorry. Tracy, I really like catching up with Adam. Just going backwards, you know, I've always been a little bit unsatisfied by the China overcapacity argument. because a country can't just become really great at producing large scales of competitive products by subsidies alone. It's impossible. Otherwise, every country would do it.

And many have tried and most have failed. So like this simple story that people tell us like, oh, they cheated and they like gave all this money to their local companies. And that's why it's okay to have retaliatory tariffs. Like, I've never really been satisfied with that argument. I mean, I think there's an additional layer to it, which is the complaint is that they've cheated. in terms of like patents and IP and that too. Sure. But without getting too into the weeds, I do think Adam's point about like the one upmanship is real between China and the U.S. and now also within the U.S. with two political candidates that both seem to be vying on the same

issue. Totally. So on the speech itself, on Powell's speech, I found Adam's critique to actually be very interesting. And I hadn't thought about this sort of in the last three years at Jackson Hall. He's given to, as he characterized at, rifle shot speeches. So 2022, basically a kind of whatever it takes-ish speech saying we're going to get inflation down. And then another short speech this year, we're not going to let the labor market deteriorate. You know, it's funny because this thing that we've talked about is, well, would the markets be anxious at the Fed went 50 basis points or whatever. And if you take Adams' perspective to its conclusion, it's like, if somehow fed seriousness about tackling unemployment is a reason for you to get spooked, then why not get

spooked by the speech today? Why even talk about the 50 basis point risk? Why not get spooked by the fact that they're talking about fighting unemployment with the same sort of focus and approach as they're talking about fighting inflation? Yeah, I think that's a really good take. This has come up a number of times, but also that short-termism point, I do really wonder about that. Part of me thinks the Fed is trying to maintain some optionality, obviously, at a very uncertain time. But on the other hand, I do wonder between now and September 17th, 18th, if you were to get a really good jobs report, or not even a really good jobs report, a slightly better than expected jobs report, what would the market do? And what would the Fed do? Yeah, I mean, maybe, I mean,

And a good jobs report probably just means, you know, a very a comfortable pace of 25s, right, or something like that. But yeah, I mean, and, you know, since we got that week July jobs report, we've had pretty benign initial jobless claims readings. We've also had some survey data that's not been that bad. Some of the private sector data. So indeed.com puts out their own measures of labor market health actually not that bad. So there's some interesting stuff coming up between now, for sure, between.

now in that September meeting. Plenty more to talk about for sure. Shall we leave it there for now? Let's leave it there. This has been another episode of the Oddlots podcast. I'm Tracy Alloway. You can follow me at Tracy Alloway. And I'm Joe Wisenthal.

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