Is the Fed using the right tool or is it using its only tool?
The Federal Reserve is using the only “input knob” on the machine that it controls, which cannot correct the factors in the economy that are out of equilibrium. From a prior post:
As Wendy pointed out, a key concern now is that the Fed seems intent on doing SOMETHING cuz by golly, their mission in life is to deliver “moderate” inflation (not too low to encourage bubbles, not too high to tank growth). Much of what we will be seeing won’t be caused by monetary decisions. Unfortunately, other players with knobs under their control don’t seem willing / able to tweak those knobs to adjust to the square wave changes in inputs. Since the Fed doesn’t have to run for office and feels more freedom to act, they are turning the only knob they control in the machine and it is likely NOT the knob we need tuned. Or, more charitably, it may help them chase some of the froth out of the economy but it will be insufficient to re-capitalize key segments of the economy to correct systemic imbalances and massive underspend for infrastructure.
Is the Fed the right actor for this situation?
Absolutely not. We haven’t haven’t sold the public on a shared, CORRECT view of “the problem” we face. Judging from 2022 election cycle ads already running, the public is being “sold” that our problem is due to stifling domestic energy policies choking supply of oil/gas and wasteful stimulus money in 2020 and 2021 that led to too many nominal dollars chasing the same sized pie. This is NOT the problem we face.
The problem we face is the result of different square wave changes in key elements of any economy – energy, labor supply and logistics – that have all been building for decades but became apparent within 2-3 years of each other. With energy, the writing has been on the wall for 20 years that fossil fuels need to be deprecated and IN FACT the fossil fuel industry has been doing exactly that for over 20-30 years. While new technology was developed for fracking which helped change the unrefined supply picture domestically, oil companies haven’t built a single refinery ANYWHERE in the US since the 1970s. Do they know something they haven’t been telling the rest of us as we buy gas for $5.50+/gallon? As a matter of fact they do… Yet the US is doing nothing to organize our attack on shifting away from fossil fuels, both at the legacy source layer, the re-engineering of infrastructure within the electric grid, accelerated investments in materials science to improve battery technology and geopolitical planning related to the next must-have rare-earth raw materials for battery manufacturing.
We are facing labor supply issues due to a variety of factors. Obviously, the pandemic contributed to the death of over one million people in the US and roughly 213,436 of those were of working age between 45-65 and 42,247 were under age 45.
Those deaths were presumably spread across job categories / skill levels so the pandemic literally destroyed a vast amount of human capital that cannot just be instantly replaced AT ANY PRICE by dangling higher wage rates in front of the remaining work force. If a job requires significant training (doctors, nurses, skilled trades, etc.), that supply cannot be instantly recreated. And the 213,436 + 42,247 weren’t the only workers taken out of the labor pool, those were just the ones that died. Many more face long-term health issues that prevent them working in their original capacity, again magnifying skills shortages. The Federal Reserve has no knob whatsoever that can cure skills shortages in labor markets, even over multi-year cycles. They are simply not on that side of the proverbial machine. Raising interest rates to slow an “overheated economy” because of spiking labor rates in these niches does NOTHING to solve the shortage.
Finally, the economy is being crippled by logistical issues stemming from the shortsightedness of Corporate America. A story from the last couple of days pointed out that currently, the US has ZERO capacity to make semiconductors using the latest 5 nanometer technology in use to create state of the art chips for CPUs, ECUs in cars, smartphones and more esoteric products like control systems, weapons systems, etc. ZERO. The same off-shoring strategy for semiconductors was followed in many other sectors, leaving the manufacturing of many products in a state where while America may still provide 50-75% of the value add, the ENTIRE product cannot be sourced and completed domestically, putting the complete manufacturing of many products at risk due to physical or political disruptions. The Federal Reserve has no knobs under its control that can alter incentives facing domestic companies to rethink on-shore/off-shore strategies or influence taxing and subsidy policies by federal or state government to encourage on-shoring of key capabilities.
As philosopher king, what would you be doing?
While attempting to obey a no-politics edict, solving these problems requires work in the following areas:
Create a shared definition of the key problems – Failure to do so will allow special interests to continue leveraging our already crippled, gerrymandered, un-democratic system to thwart any meaningful change that improves life in aggregate at the expense of a small minority.
Immediately create subsidies to create geographically diverse chip fabrication plants in the US – These should not all be located in a single region (like California subject to earthquakes, Texas subject to grid failure, Florida subject to hurricanes, etc.). The idea of designing and creating $60,000 cars which cannot be completed due to the inability to make a $1500 ECU is idiotic. Note that American firms know HOW to make these chips and the plants that make them, those firms allowed competitors to get better at it and customers followed the margins to swing purchases to the biggest, least expensive providers (like TMSC). These plants don’t employ tens of thousands of workers so at the same time construction is initiated, government and industry need to create an plan to incent education supporting plant worker skills and higher level skills in material science, etc. that support these types of plants.
Modernize and simplify the tax code so everyone in the boat feels like everyone else has a hand on an oar and is rowing along with everyone else. – In an environment combining high inflation, growing corporate profits and (net) stagnation in wages (adjusted after the skyrocketing inflation), that can only mean that wealth is continuing to funnel to the top where it is least needed. There are roughly 1,000 billionaires in the United States. Lowering marginal tax rates, lowering rates on capital gains, jiggering depreciation rates on equipment, etc. only has so much aggregate impact to the economy if focused on what benefits 1000 people. The inertia of a $23 trillion dollar economy with 350 million participants cannot be changed unless MILLIONS of people see a material change in incentives.
Modernize education to produce greater literacy in science, personal economics and government / law. – I fear that many of our economic problems stem from special interests adopting techniques from Madison Avenue and applying them to far more critical decisions regarding issues related to science and pubic policy. We’ve succeeded at promoting two or three really strong “brands” of thinking but while everyone seems 100% sold on their brand, they cannot describe what the brand means or accurately link ideas linked to that brand to the daily processes affecting their life. But they KNOW they want their state auditor to be pro-life… Or pro-choice… But never contemplate the fact that the job of an AUDITOR should not involve those issues. You should be looking for someone with an advanced degree in finance with a legal background and experience managing teams and technology.