By CHRISTOPHER RUGABER
AP Economics Writer

WASHINGTON (AP) — When Jerome Powell delivered a high-profile speech last month, the Federal Reserve chair he ever had to declaring that the inflation surge that gripped the nation for three painful years was now essentially defeated.

And not only that. The Fed’s high interest rates, Powell said, had managed to achieve that goal without causing a recession and high unemployment.

Yet most Americans are not in the same celebratory mood about the in the face of the high borrowing rates the Fed engineered. Though consumer sentiment is , a majority of Americans in some surveys still complain about elevated prices, given that the costs of such necessities as food, gas and housing remain far above where they were before the pandemic erupted in 2020.

The relatively sour mood of the public is creating challenges for Vice President Kamala Harris as she seeks to succeed President Joe Biden. Despite the fall of inflation and strong job growth, many voters say they’re dissatisfied with the Biden-Harris administration’s economic record — and especially frustrated by high prices.

That disparity points to a striking gap between how economists and policymakers assess the past several years of the economy and how many ordinary Americans do.

In last month, given at an annual economic symposium in Jackson Hole, Wyoming, Powell underscored how the Fed’s sharp rate hikes succeeded much more than most economists had predicted in taming inflation without hammering the economy — a notoriously difficult feat known as a “soft landing.”

“The 4-1/2 percentage point decline in inflation from its peak two years ago,” he noted, “has occurred in a context of low unemployment — a welcome and historically unusual result.”

With high inflation now essentially conquered, Powell and other central bank officials are in mid-September for the first time in more than four years. The Fed is becoming more focused on sustaining the job market with the help of lower interest rates than on continuing to fight inflation.

Many consumers, by contrast, are still preoccupied most by today’s price levels.

“It really has been a remarkable success, how inflation went up, has come back, and is around the target,” said Kristin Forbes, an economist at MIT and a former official at the United Kingdom’s central bank, the Bank of England.

“But from the viewpoint of households, it has not been so successful,” she added. “Many have taken a big hit to their wages. Many of them feel like the basket of goods they buy is now much more expensive.”

Two years ago, economists feared that the Fed’s ongoing rate hikes — it ultimately raised its benchmark rate more than 5 percentage points to a 23-year high in the fastest pace in four decades — would hammer the economy and cause millions of job losses. After all, that’s what happened when the Fed under Chair Paul Volcker sent its benchmark rate to nearly 20 percent in the early 1980s, ultimately throttling a brutal inflationary spell.

In fact, at Jackson Hole two years ago, that using high interest rates to defeat the inflation spike “would bring some pain.”

Yet now, according to the Fed’s preferred measure, inflation is 2.5 percent, not far above its 2 percent target. And while a weaker pace of hiring has caused some concerns, the unemployment rate is at a still-low 4.3 percent, and the economy expanded at a last quarter.

While no Fed official will outright declare victory, some take satisfaction in defying the predictions of doom and gloom.

“2023 was a historic year for inflation falling,” said Austan Goolsbee, president of the Chicago Fed. “And there wasn’t a recession, and that’s unprecedented. And so we will be studying the mechanics of how that happened for a long time.”

Measures of consumer sentiment, though, indicate that three years of hurtful inflation have dimmed many Americans’ outlook. In addition, high loan rates, along with elevated housing prices, have led many young workers to fear that homeownership is increasingly out of reach.

Last month, the consulting firm McKinsey said that 53 percent of consumers in its most recent survey “still say that rising prices and inflation are among their concerns.” McKinsey’s analysts attributed the escalated figure to “an ‘inflation overhang” — the belief that it can take months, if not years, for consumers to adjust emotionally to a much higher level of prices even if their pay is keeping pace.

Economists point to several reasons for the wide gap in perceptions between economists and policymakers on the one hand and everyday consumers and workers on the other.

The first is that the Fed tailors its interest rate policies to manage inflation — the rate of price changes — rather than price levels themselves. So when inflation spikes, the central bank’s goal is to return it to a sustainable level rather than to reverse the price increases. The Fed’s policymakers expect average wages to catch up and eventually to allow consumers to afford the higher prices.

“Central bankers think even if inflation gets away from 2 percent for a period, as long as it comes back, that’s fine,” Forbes said. “But the amount of time inflation is away from 2 percent can have a major cost.”

, a Harvard economist, and two colleagues found that most people’s views of inflation are very different from those of economists. Economists tend to regard inflation as a consequence of strong growth. They often describe inflation as a result of an “overheating” economy: Low unemployment, strong job growth and rising wages lead businesses to sharply increase prices without necessarily losing sales.

By contrast, a survey by Stantcheva found, ordinary Americans “view inflation as an unambiguously bad thing and very rarely as a sign of a good economy or as a byproduct of positive developments.”

Her survey respondents also said they believed that inflation stems from excessive government spending or greedy businesses. They “do not believe that (central bank) policymakers face trade-offs, such as having to reduce economic activity or increase unemployment to control inflation.”

At the Jackson Hole conference, Andrew Bailey, governor of the Bank of England, argued that central banks cannot guarantee that high inflation will never appear — only that they will try to drive it back down when it does.

The test of a central bank, Bailey said, “is not that we will never have inflation. The test of the regime is how well, once you get hit by these shocks, you bring it back to target.”

Still, Forbes suggested that there are lessons to be learned from the inflation spike, including whether inflation was allowed to stay too high for too long. The Fed has long been criticized for having taken too long to start raising its benchmark rate. Inflation first spiked in the spring of 2021. Yet the Fed, under the mistaken impression that high inflation would prove “transitory,” didn’t begin raising rates until nearly a year later.

“Maybe should we rethink … where we seem to be now: ‘As long as it comes back four to five years later, that’s fine,’ ” she said. “Maybe four to five years is too long.

“How much unemployment or slowdown in growth should we be willing to accept to shorten the length of time that inflation is too high?”

The post The Fed welcomes a ‘soft landing’ even if many Americans don’t feel like cheering appeared first on Daily Journal of Commerce.

As the Federal Reserve carried out its battle against inflation, consequences arose that were unintended: The banking system suffered the biggest bank failure in years. Silicon Valley Bank, a 40-year-old institution centered in Santa Clara, California, suffered a run and had to close. The failure was sudden. The bank had been wobbly for a brief time, but failed suddenly when a small, closely connected group of large depositors demanded their money in a classic “run on the bank.”

The bank, thought to be well-capitalized, had to close upon revelation that it had a considerable amount of its assets invested in bonds, whose value had declined as interest rates rose. When interest rates were abnormally low, Silicon Valley Bank loaded up on long-term government bonds, which were thought to be risk free. When the Fed raised interest rates at the sharpest pace in 40 years, bond prices plunged and the bank’s equity, when its assets were marked to market value, was wiped out.

The discovery of this caused venture capital funds to lose confidence in the bank’s finances and instruct their portfolio companies, who were concentrated in Silicon Valley, to withdraw their money. Paper losses became real losses, as the bank had to sell bonds before maturity at a loss. So, what took 40 years to create disappeared in the blink of an eye, because of the bank buying long-term bonds to fund demand deposits. Apparently bank regulators had flagged this mismatch at the bank for some time, but that is all they did.

With the bank run, regulators acted quickly to sell the bank, but no buyers could be found. This startling news started a bank run contagion with problems that threatened to spread further in the banking system. More effort was needed before the panic spread to other banks and so the U.S. Treasury stepped in to backstop all the depositors, thereby saving thousands of companies and jobs. The shareholders of Silicon Valley Bank and Signature Bank – a New York City bank that failed at the same time – were wiped out.

The panic spread to Europe, where another bank, Credit Suisse, saw a run. That ultimately threatened the rest of Europe when it was discovered that not even the gnomes of Switzerland could avoid the loss of confidence in its fabled system. Finally, the Swiss government stood up and stopped the run by getting UBS to buy all of Credit Suisse. Only then was relative calm restored, but not before vast sums of money evaporated.

Rising interest rates had left the global banking system vulnerable. It was a stark reminder that the system is still subject to risks that were not appreciated by a new generation of investors and traders. It was a reminder how close the markets, reliant on confidence in the system, are to a sudden meltdown. Banking regulators stepped in to shore up the banks, both here and abroad. The effort worked, until the next time.

Jamie Dimon, CEO of JPMorgan Chase, the largest U.S. bank, said the damage from this meltdown will last a long time. A side effect of the bank run is a flight to quality. Deposits left small banks for large, well-funded banks, causing lost deposits in the small, regional and community banks. Could this ignite another bank failure? It might. It is too soon to know. Certainly, this shift of assets will decrease liquidity available to small businesses, which will curtail their hiring and investment plans and slow the economy further. Local banks know their customers and provide the capital for their expansion. Money center banks do not.

Investors learned many lessons from this banking imbroglio: No bond is risk free. Banks can fail. Bank deposit insurance has limits. It is wise for individuals and companies to pay attention to these limits and diversify one’s deposits.

What is the Fed to do now? Lowering interest rates would be one solution, but the Fed is reluctant to do so in its fight against inflation for fear it would reignite inflation. Raising interest rates is what got us into this mess, so that does not appear a good alternative. Federal Reserve Chair Jerome Powell says that raising interest rates would cause a recession. The market appears to be doing the Fed’s work as interest rates are sliding. Perhaps if we let the market do its work, we can get out of this mess. Our confidence is in the market.

What is an investor to do? It will come as no surprise that we recommend investing in a well-diversified portfolio for the long term. U.S. Treasury Secretary Janet Yellen said in a generally positive remark that the economy is strong, and inflation is abating. We have counted on her in the past. Can we count on her now?

William Rutherford is the founder and portfolio manager of Portland-based Rutherford Investment Management. Contact him at 888-755-6546 or wrutherford@rutherfordinvestment.com. Information herein is from sources believed to be reliable, but accuracy and completeness cannot be guaranteed. Investment involves risk and may result in losses.

The opinions, beliefs and viewpoints expressed in the preceding commentary are those of the author and do not necessarily reflect the opinions, beliefs and viewpoints of the Daily Journal of Commerce or its editors. Neither the author nor the 91��Ƶ guarantees the accuracy or completeness of any information published herein.

The post The Fed vs. the market: Which one will have its way? | OP-ED appeared first on Daily Journal of Commerce.