Best of the Week
Most Popular
1. US Housing Market House Prices Bull Market Trend Current State - Nadeem_Walayat
2.Gold and Silver End of Week Technical, CoT and Fundamental Status - Gary_Tanashian
3.Stock Market Dow Trend Forecast - April Update - Nadeem_Walayat
4.When Will the Stock Market’s Rally Stop? - Troy_Bombardia
5.Russia and China Intend to Drain the West of Its Gold - MoneyMetals
6.BAIDU (BIDU) - Top 10 Artificial Intelligence Stocks Investing To Profit from AI Mega-trend - Nadeem_Walayat
7.Stop Feeding the Chinese Empire - ‘Belt and Road’ Trojan Horse - Richard_Mills
8.Stock Market US China Trade War Panic! Trend Forecast May 2019 Update - Nadeem_Walayat
9.US China Trade Impasse Threatens US Lithium, Rare Earth Imports - Richard_Mills
10.How to Invest in AI Stocks to Profit from the Machine Intelligence Mega-trend - Nadeem_Walayat
Last 7 days
The Euro Is Bidding Its Time: A Reversal at Hand? - 23rd May 19
Gold Demand Rose 7% in Q1 2019. A Launching Pad Higher for Gold? - 23rd May 19
Global Economic Tensions Translate Into Oil Price Volatility - 22nd May 19
The Coming Pension Crisis Is So Big That It’s a Problem for Everyone - 22nd May 19
Crude Oil, Hot Stocks, and Currencies – Markets III - 22nd May 19
The No.1 Energy Stock for 2019 - 22nd May 19
Brexit Party and Lib-Dems Pull Further Away from Labour and Tories in Latest Opinion Polls - 22nd May 19
The Deep State vs Donald Trump - US vs Them Part 2 - 21st May 19
Deep State & Financial Powers Worry about Alternative Currencies - 21st May 19
Gold’s Exciting Boredom - 21st May 19
Trade War Fears Again, Will Stocks Resume the Downtrend? - 21st May 19
Buffett Mistake Costs Him $4.3 Billion This Year—Here’s What Every Investor Can Learn from It - 21st May 19
Dow Stock Market Trend Forecast 2019 May Update - Video - 20th May 19
A Brief History of Financial Entropy - 20th May 19
Gold, MMT, Fiat Money Inflation In France - 20th May 19
WAR - Us versus Them Narrative - 20th May 19
US - Iran War Safe-haven Reasons to Own Gold - 20th May 19
How long does Google have to reference a website? - 20th May 19
Tory Leadership Contest - Will Michael Gove Stab Boris Johnson in the Back Again? - 19th May 19
Stock Market Counter-trend Rally - 19th May 19
Will Stock Market “Sell in May, Go Away” Lead to a Correction… or a Crash? - 19th May 19
US vs. Global Stocks Sector Rotation – What Next? Part 1 - 19th May 19
BrExit Party EarthQuake Could Win it 150 MP's at Next UK General Election! - 18th May 19
Dow Stock Market Trend Forecast 2019 May Update - 18th May 19
US Economy to Die a Traditional Death… Inflation Is Going to Move Higher - 18th May 19
Trump’s Trade War Is Good for These 3 Dividend Stocks - 18th May 19
GDX Gold Mining Stocks Fundamentals Update - 17th May 19
Stock Markets Rally Hard – Is The Volatility Move Over? - 17th May 19
The Use of Technical Analysis for Forex Traders - 17th May 19
Brexit Party Set to Storm EU Parliament Elections - Seats Forecast - 17th May 19
Is the Trade War a Catalyst for Gold? - 17th May 19
This Is a Recession Indicator No One Is Talking About—and It’s Flashing Red - 17th May 19
War! Good or Bad for Stocks? - 17th May 19
How Many Seats Will Brexit Party Win - EU Parliament Elections Forecast 2019 - 16th May 19
It’s Not Technology but the Fed That Is Taking Away Jobs - 16th May 19
Learn to Protect your Forex Trading Capital - 16th May 19
Gold Ratio Charts Offer The Keys to the Bull Market - 16th May 19
Is Someone Secretly Smashing the Stock Market at Night? - 16th May 19

Market Oracle FREE Newsletter

U.S. House Prices Analysis and Trend Forecast 2019 to 2021

Yellen Looking For Inflation In All The Wrong Places

Economics / Inflation Feb 09, 2015 - 03:02 PM GMT

By: Michael_Pento

Economics

In 1958, economist W.H. Phillips wrote a paper that argued an inverse relationship existed between wage inflation and unemployment.  The crux of his theory was when unemployment is high wage growth is absent; but when the unemployment rate is low wages rise rapidly.  Philips established his theory under the framework of a curve and it was aptly referred to as “The Phillips Curve”. However, many economists wrongly adopted the Phillips Curve by relating it to general price inflation, rather than to just wage inflation.  Sadly for Phillips Curve enthusiasts, the high inflation and high employment rates of the 1970’s turned this metric on its head. 


Stagflation in the U.S. throughout the 1970’s proved high inflation and high unemployment can—and often do--exist concurrently, thus rendering the Phillips Curve obsolete. This same phenomenon where rising inflation coincides with a rising unemployment rate has also been witnessed throughout the globe. Fittingly, the notion that more people working was the cause of inflation should have found its place in the Wall of Shame of economic theories, sandwiched in between other items falling out of vogue at the time, such as toe socks and the pet rock. 

However, the Keynesian economists who held this curve in such high esteem in the 1960’s, were somehow unable to let it go. Therefore, a new metric was created rooted in the Phillips Curve, but conveniently much more ambiguous. They called this metric the Nonaccelerating Inflation Rate of Unemployment (NAIRU).  The idea behind NAIRU is inflation and unemployment really only become correlated once unemployment falls below a certain calculated rate. But you have to understand that the Fed’s number for NAIRU is more elastic and flexible than Gumby. And when it does fall below that predetermined rate, as it did from 1996-2000, and inflation (as the Fed measures it) is still absent, the Fed must come up with an excuse for its inaction.
    
Just to be clear, there is no relationship between unemployment and the overall rate of inflation. As Milton Friedman taught us, inflation is solely a monetary event. It is my view that inflation is caused by a persistent fall in the purchasing power of a currency. The market becomes convinced that substantial currency dilution will occur and the value of paper money falls.  Even if everyone able to work became gainfully employed it would not cause inflation. It may lead to rising nominal wages but the increase in products and services provided by these newly employed persons would absorb the wage growth without causing prices to rise. A growing labor force and increasing productivity are the very keys to economic prosperity.

But, the reason it is important to understand the Phillips Curve and more importantly NAIRU, is because this metric is perhaps the most important data point Janet Yellen looks at when making decisions on Fed Policy.  When unemployment is higher than NAIRU, as it is now, Yellen sounds like a dove. But when unemployment falls below, as it did in 1996 to 2000, Yellen has shown she's more ready to tighten policy than other central bankers.

Ms. Yellen has an unfounded fear that too many workers will hyper inflate our deflating worldwide economy. Just to understand how unfounded these beliefs are in reality, take a look at these two charts.                   

U.S. inflation as indicated by the CPI since 2011. 


 
 U.S. unemployment rate during the same timeframe.


As you can see, inflation and unemployment are both declining in tandem. I defy any Keynesian adherent to the Phillips Curve or NAIRU to glean the correlation between a falling unemployment rate and the rate of inflation.

It was the Fed’s initial belief back in 2010, when the unemployment was just south of 10 percent, that a change in monetary policy would be necessary once the unemployment rate reached 6.5%. However, since inflation and the economy have not picked up, they have since moved the new target to around 5.4%.  With unemployment currently at 5.7%, we are getting dangerously close to Ms. Yellen’s line in the NAIRU sand. 

The problem is, while Janet Yellen is busy tinkering with the Phillips Curve--in a pernicious attempt to determine how many Americans she will allow to find work--she is missing the crumbling economic fundamentals all around her. The flattening yield curve, plummeting commodity prices, and weakening U.S. and international economic data; all show that the asset bubbles created by central banks are popping. Once again, the Fed is applying faulty models to the wrong economic fundamentals.   

However, if unemployment continues to fall Ms. Yellen will be forced by her own passionately held doctrines to raise interest rates into a deflationary cycle. I welcome this move; along with the overdue and inevitable consequences that it brings. But I also understand the Fed will unwittingly be doing the equivalent of parking a car on the train tracks.  Ms. Yellen will even have to ignore the fact that the falling unemployment rate is happening for the wrong reason, as it coincides with a falling labor force participation rate.

Yet again the Fed will be missing what is right in front of them.  As usual, it is fighting yesterday’s war with the wrong weapons.  This pervasive and protracted incompetence is not just confined to the U.S. central bank. The central banks of Europe, Japan and China also now join the Fed in owning the markets for real estate, equities, bonds and (as a direct consequence) their entire economies. This is why the immense power to determine the money supply and level of interest rates should never have been given to a group of unelected bureaucrats. And is why faith in the money printers to solve our economic problems is soon coming to an end.

Michael Pento is the President and Founder of Pento Portfolio Strategies and Author of the book “The Coming Bond Market Collapse.”

Respectfully,

Michael Pento
President
Pento Portfolio Strategies
www.pentoport.com
mpento@pentoport.com

Twitter@ michaelpento1
(O) 732-203-1333
(M) 732- 213-1295

Michael Pento is the President and Founder of Pento Portfolio Strategies (PPS). PPS is a Registered Investment Advisory Firm that provides money management services and research for individual and institutional clients.

Michael is a well-established specialist in markets and economics and a regular guest on CNBC, CNN, Bloomberg, FOX Business News and other international media outlets. His market analysis can also be read in most major financial publications, including the Wall Street Journal. He also acts as a Financial Columnist for Forbes, Contributor to thestreet.com and is a blogger at the Huffington Post.
               
Prior to starting PPS, Michael served as a senior economist and vice president of the managed products division of Euro Pacific Capital. There, he also led an external sales division that marketed their managed products to outside broker-dealers and registered investment advisors. 
       
Additionally, Michael has worked at an investment advisory firm where he helped create ETFs and UITs that were sold throughout Wall Street.  Earlier in his career he spent two years on the floor of the New York Stock Exchange.  He has carried series 7, 63, 65, 55 and Life and Health Insurance Licenses. Michael Pento graduated from Rowan University in 1991.
       

© 2015 Copyright Michael Pento - All Rights Reserved
Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

Michael Pento Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules