Recession In Interest Sensitive Sectors Continue

We are in a recession in the interest sensitive Residential and Construction industries due to overly hawkish Fed policy.  The recession continued in the Q3 GDP numbers with both sectors still declining a total of .4% for the quarter and overall investment near zero.  The reported number was above trend at 4.3% driven by strong personal consumption expenditures of 3.5%, which is not likely to be sustainable.  GDI, an alternative measure of economic growth was a more modest 2.4% for the quarter. 

The Fed continues to cause the economy to underperform by following its disastrous 2% inflation target when it clearly should be 2-3%.  The Fed should not have precipitated the GFC with 17 rate increases in a row despite inflation never exceeding 3% on CPI core. The post WWII average inflation rate is 3.6% and average excluding the 70s inflation, which was mostly caused by an oil price spike, is 2.7%.  The Fed should not attempt to slow down the economy and hammer middle class wages when inflation is in line with the post WWII average.

Inflation does not become sticky or entrenched.  There has never been significant inflation (above 3% on core CPI)  without excessive money supply growth well over 6% per year.  The money supply (monetary base) is down 6% year over year and oil prices are down over 20% both indicating that inflation will continue to decline.  We believe the most recent CPI report was wildly bullish as the massively lagging shelter component was very muted at .1% per month which indicates that CPI-U and PCE core will approach the Fed’s arbitrary target by the end of 2026, which will pave the way for at least 3 cuts in 2026.

We continue to favor Waller for Fed Chair as he is a monetarist and has a strong track record of forecasting inflation.  We are neutral on Kevin Hasset but very negative on Kevin Warsh as he was a member of the Fed that raised rates 17 meetings in a row during the Mid-2000s even though inflation was approximately 2% and remained hawkish even after the GFC was well under way. Warsh would likely be a way worse Fed Chair than Powell due to his continued strong commitment to the disastrous 2% inflation target.