Inflation Understatement Used to Justify Fed Easings?

Industrial Production Plunge Could Set Second Timing-Point for Official Recession

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Two Dissenting Votes. The Federal Reserve’s Federal Open Market Committee cut the targeted fed funds rate and discount rate by 75 basis points (0.75%), today, which amounts to a 100 basis-point cut in the discount rate since Sunday morning. Some might argue that February’s inflation reporting was a harbinger of stabilizing inflation and supportive of further sharp easing, but current oil prices promise anything but inflation stability. Interestingly, there were two dissenting votes on the FOMC arguing that the action taken was too aggressive.

Today’s rate capitulation to Wall Street, was on top of Sunday’s emergency liquidity actions, which were the fourth such set of emergency actions in ten days. Beyond a 25 basis-point discount rate cut, Sunday’s policy announcement opened the Fed’s emergency discount window lending to primary dealers (non-depository institutions), as part of the broadening effort to prevent a collapse of the U.S. financial system. All Fed activities to date have been consistent with the view that the U.S. central bank will create whatever money it has to in order to bailout any financial-sector participant, the failure of which otherwise might trigger a systemic collapse. As discussed in the last newsletter, the cost of this systemic salvation will be much higher inflation.

Shy of short-lived market euphoria and/or short-lived intervention in the currency, gold, oil and stock markets — the latter as seen on Monday — the ongoing Fed actions have dismal implications for the U.S. dollar and U.S. equities, and should add significant upside pressure to buying in the gold markets. While the sudden "improvement" in the reported monthly U.S. inflation rates is nonsense, the markets seem to view the data at best as transient, at worst as outright fabrications. 

As With the CPI, the PPI Report Showed Little or No Food or Energy Inflation. The seasonally-adjusted February finished goods PPI rose by the expected 0.3% (0.2% unadjusted), versus January’s 1.0% (0.8% unadjusted) gain. Annual PPI inflation for February fell to 6.4% from 7.4% in January. Seasonally-adjusted intermediate and crude goods in February rose by 0.8% and 3.7% respectively, following January’s 1.4% and 2.5% gains.

As with the February CPI report, however, the PPI report was not credible. Although the monthly February gain was in line with consensus forecasts, both the food and energy inflation components were seriously understated, with foods down by 0.5% and energy up by just 0.8% for the month. At the other end of the spectrum, "core" PPI — net of food and energy costs — was up 0.5% for the month in February, versus 0.4% in January and 0.2% in December.

Industrial Production Drop Sets Up Possible Second Recession Timing Point. Seasonally-adjusted February industrial production tumbled by 0.5% (down 0.4% net of revisions) for the month, following an unrevised 0.1% gain in January. Year-to-year growth slowed to 1.0% in February from 2.3% (was 2.2%) in January. The monthly production decline was broadly based.

Pending benchmark revisions on March 28th should show weaker than previously reported growth for the production series in recent years, with revisions and "redefinitions" stretching back to 1972. Odds favor the March report establishing the second consecutive quarterly contraction for the series. Such would give the National Bureau of Economic Research (NBER) — official arbiter of U.S. recessions — its second timing point for calling the current recession, with the first timing point being set by recent payroll employment reporting.

Housing Starts Showed Continued Bottom-Bouncing. The highly volatile housing numbers showed increasing bottom-bouncing, with February’s seasonally-adjusted housing starts down by 0.6% +/- 13% (95% confidence interval), but up by 5.2% net of revisions. This followed a revised monthly gain for January of 7.1% (previously 0.8%). February’s year-to-year decline still widened to 28.4% from a revised 23.7% (previously 27.9%) drop in January, well shy of the 48.6% annual decline seen at the trough of the 1990/1991 recession. February’s building permits were down 7.8% (previously down 3.0%) for the month and down 36.5% for the year, against a revised 1.8% monthly decline, and 32.2% (was 33.1%) annual decline in January.