Now the fat's in the fire. Both stocks and bond prices have been falling of late, due to the fear that the Fed will end its $85 billion per month QE purchases of Treasury and mortgage securities too soon. Fed Chairman Bernanke had said that if employment continued to improve, the Fed might begin to "taper" its purchases as soon as its June FOMC meeting.
And today the Bureau of Labor Statistics reported the May unemployment report rose from 7.5 to 7.6 percent because 420,000 more people are looking for work, though 175,000 more payroll jobs were created in May! So what's the Fed to do? On the face of it, the Fed can't begin to end QE purchases because its stated goal of 6.5 percent unemployment isn't close to being reached.
Graph: Calculated Risk
And both inflation indexes and consumer incomes show there is still insufficient demand for more goods and services that would cause the U.S. economy to grow closer to its normal longer term GDP growth rate of 3.5 percent. It grew just 2.2 percent last year, and predictions for 2013 are not much better.
This graph of personal consumption expenditure prices illustrates the problem. Prices have been falling, and when prices fall, so do profits. Hence wages and so employment remains stagnant, stuck where it has essentially been over the past 3 years. Then why are we worried?
"Bond prices have got to fall. Long-term rates have got to rise. The problem, which is going to confront us, is we haven't a clue as to how rapidly that's going to happen. And we must be prepared for a much more rapid rise than is now contemplated in the general economic outlook."
But interest rates generally rise and fall in tandem with inflation, and inflation is still falling. Inflation hasn't historically a problem until closer to full employment. So we have a long way to go before worrying about interest rates rising too fast.
Harlan Green © 2013