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Apr 22 2019

Inflation Downturn Signals and Rate Cuts

An excerpt from our “Probing Powell’s Patience" talk given at the Levy Economics Institute’s Minsky Conference, April 17, 2019. –

According to The Wall Street Journal, “policy makers appear to have pivoted in time to prevent” a recession. This is an assumption worth examining.

These charts show the past half dozen Fed rate hike cycles in the context of the USFIG. Three of them ended in recessions, two in soft landings, and the last episode is still unfolding.

Our research shows that the Fed achieved soft landings – like in 1995 – when it started rate cut cycles the same month the inflation downturn signals from the U.S. Future Inflation Gauge (USFIG) arrived. However, recessions followed when the rate cut cycles began with lags relative to those downturn signals.

So, what really seems to matter is not when the Fed stops rate hikes, but how promptly it starts the rate cut cycle following the inflation downturn signal.

In the current cycle the inflation downturn signal arrived last September, seven months ago. Of course, the Fed has no intention of starting a rate cut cycle just yet. Therefore, according to this pattern, an element of recession risk is present.

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