Powell Throws Away the Map, Ignores Lighthouse – Time to Abandon Ship?

Powell Throws Away the Map, Ignores Lighthouse – Time to Abandon Ship?
Photo by Alonso Reyes

From Birch Gold Group

Today’s economic situation isn’t pretty, but it could be worse. Fifty years ago, it was…

After an energy crisis in the late 1970s, and an Iranian conflict, inflation in the U.S. soared to incredible heights for the 2nd time in the early 1980s.

Officially, inflation soared to near 15%, which is still a post-WWII record (for now). Unemployment was high back then, too. It hovered around 7-8%, even reaching a shocking 11% in 1982.

Enter Paul Volcker, the Federal Reserve Chairman from 1979-1987. To make a long story short, the controversial Fed official had to initiate what was considered an unconventional approach to curbing the “near hyperinflation” of that time.

Volcker charted a course involving an incredibly dramatic rate hike that intentionally sent the economy into recession. Economics reporter Sarah Foster explains what happened:

The U.S. central bank did something that might seem counterintuitive for an institution that strives to maintain the most productive economy possible: It manufactured a recession to bring prices back down.

The fed funds rate began the decade at a target level of 14 percent in January 1980. By the time officials concluded a conference call on Dec. 5, 1980, they hiked the target range by 2 percentage points to 19-20 percent, its highest ever. [emphasis added]

The federal funds rate went on a policy-directed roller coaster ride between 10-18% from January 1980 to early 1983. They finally subsided below the double-digit mark after that.

During the same time period, the economy dove into a deep recession. But inflation also took a dive, falling from almost 15% down to a much more reasonable 2.5% in 1983.

That means sending the federal funds rate “to the moon” over four long years, triggering not just one but two recessions, actually worked. The U.S. economy got back on track and went on to enjoy two decades of nearly-uninterrupted growth.

In other words, Paul Volcker’s actions caused short-term pain but cleared a path for a much wealthier, more productive nation.

Volcker’s anti-stagflation plan worked. That’s not debatable. That’s a fact. That’s history. In fact, it’s quite possibly the Federal Reserve’s greatest success.

Today, the U.S. economy is teetering on the brink of stagflation. The good news is, we know how to fix it.

The bad news is, Powell is no Volcker. He seems a lot more frightened of the cure than the disease…

Stagflation then and now

Below is a line graph that shows inflation from 1980 to February 2022, using both the methodology that was used to calculate it back then (blue line) and now (red line). (It’s rather curious that if you use the same official methodology used in the 80s, inflation is accelerating even faster now than it was back then.)

Let’s focus on today’s “official” method for the moment (the red line).

It’s not just today’s prices that deeply concern us, it’s the speed at which the line is going up. Even when we look all the way back to 1948, this is the fastest rise in prices we’ve ever seen.

There’s no amount of hand-waving or calling it “transitory” or blaming supply chains or Vladimir Putin that’s going to cover this up. And Powell knows it.

That’s why the Fed has finally, grudgingly inched interest rates just a whisker above zero (0.33%). The war on inflation has begun!

Fortunately, like we outlined previously, this isn’t uncharted territory. The Fed has been here before. They know exactly what to do. It’s a guaranteed win.

So why isn’t Powell following the winning course?

A tale of two Feds

Paul Volcker took command of the Fed during a time of high inflation. He immediately started raising the Fed’s interest rates, and with a firm hand on the wheel kept them high through two recessions. Stocks responded by plunging 50%, staying low for nearly two years, and then slowly recovering over the next six years.

The 1970s were indeed a “lost decade” for people who stayed invested in stocks.

On the other hand, Volcker’s strategy cured the American economy.

By comparison, Powell became chairman of the Fed in 2018. Under Powell, the Fed’s rates never rose above 2.5% and dropped like a stone during the Covid crash. Since then, they’ve never recovered.

Here’s a look at their performance, side-by-side:

As you can see, we’re encountering an inflationary surge far worse than anything Volcker experienced during his time.

So why isn’t Powell raising interest rates to fight it?

Sarah Johnson explains that today’s Fed is nothing like Volcker’s Fed:

Officials felt comfortable leaving their foot on the gas even as inflation soared to a 40-year high. Experts say U.S. central bankers usually worry about the wrong conflict. Just how officials spent the 1990s worried about inflation, the Fed probably spent the early 2020s fearing too-low inflation, says Scott Sumner, monetary policy chair at George Mason University’s Mercatus Center.

By many standards, an entirely different U.S. central bank is steering the boat, meaning officials don’t want to tame inflation with aggressive, volatile rate hikes similar to the 1980s, Sumner says. [emphasis added]

If Sumner is correct, and “an entirely different” Fed is steering the boat, Captain Powell’s boat is not only on fire, it’s also careening toward a reef.

Unfortunately, we’re along for the ride, whether we like it or not.

Which way to the lifeboats?

Captain Powell doesn’t have what it takes to bring inflation under control. Even if his Fed stays on schedule with six 0.25% rate hikes annually, it would take five years to reach the level Volcker’s Fed started at.

And remember, even after Volcker started, the U.S. endured two severe recessions and decade-long bear market in stocks (the worst in living memory) before the economy was finally shipshape again.

If this was a real boat instead of a metaphor, we’d be buckling on our flotation vests and running for the lifeboats. In a financial sense, physical assets with intrinsic value like gold and silver are the economic equivalent of flotation vests and lifeboats.

Will the boat burn before it crashes onto the rocks? Who knows? If you’re already on the lifeboat, you might not even care…

Now is the time to seriously consider whether you’re prepared for the likely outcomes. Take a few minutes to learn how gold performs over time and the benefits of diversifying your savings with physical precious metals now – before you hear the cry, Abandon ship!

2022, Featured, federal reserve, inflation, the fed