Thoughts from the Frontline

We found out this week that the first quarter was recessionary: GDP down 1.4% when the expectation was that the quarter would be up 1%. Rather large miss! Even so, the quarter-over-quarter comparisons were difficult so I believe the Fed will look past it and a 50-basis-point hike in May is still on.

If you haven’t noticed—perhaps because you live on Mars—inflation is here. Not just in the US but almost everywhere. Prices for everyday goods and services, including necessities like food, are climbing rapidly. The US Consumer Price Index rose 8.5% in the 12 months through March… and we know it understates categories like housing.

It’s Easter weekend, so we are going to revisit a 2018 letter about the yield curve. The yield curve is much misunderstood and misused by many analysts. This letter will give you the tools to understand the correct importance and relevance of the yield curve. And then, a few comments about Ukraine.

An old Danish proverb, later attributed to everyone from Mark Twain to Nostradamus to Yogi Berra, says, “Predictions are difficult, especially about the future.” I would refine it a little: Predictions are actually pretty easy. Accurate predictions are very difficult.

“In many important ways, the financial crash of 2008 had never ended. It was a long crash that crippled the economy for years. The problems that caused it went almost entirely unsolved. And this financial crash was compounded by a long crash in the strength of America’s democratic institutions. When America relied on the Federal Reserve to address its economic problems, it relied on a deeply flawed tool. All the Fed’s money only widened the distance between America’s winners and losers and laid the foundation for more instability. This fragile financial system was wrecked by the pandemic and in response the Fed created yet more new money, amplifying the earlier distortions.” —Christopher Leonard, The Lords of Easy Money (2022) (h/t Michael Lewitt)

“I would not interpret the currently very flat yield curve as indicating a significant economic slowdown to come.” (and subprime is contained.) —Ben Bernanke, March 2006

In these letters, I look at the economy and tell you what I think, for better or worse. Recent missives were mostly negative. I regret being the bearer of bad news but sometimes that’s just reality.

The Strange Recession we are now entering is strange for another reason beside those I described last week. The last “normal” recession ended in 2009, almost 13 years ago. As with most unpleasant experiences, we don’t put a lot of energy into remembering what it was like.

Back in the good old days, recessions were simply the unpleasant part of the business cycle. Consumer choices, exuberant businesses, and monetary policy would periodically generate growth contractions. We debated the timing, but recessions didn’t come out of the blue.

“How did you go bankrupt? Two ways. Gradually, then suddenly.” - Ernest Hemingway, The Sun Also Rises

This week’s news is seemingly all about Ukraine and Russia. It is a terrible situation. But as an economic matter, we still have serious economic challenges no matter how it develops.

But mouse-friend, you are not alone In proving foresight may be vain: The best-laid schemes of Mice and Men Go oft awry, And leave us only grief and pain, For promised joy! —Robert Burns, “To a Mouse,” English translation