Will inflation influence the Fed in 2021?

Will inflation influence the Fed in 2021?

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The United States is preparing for a year of return to growth: 4.2% is expected in 2021.

Moreover, the US economic outlook for 2021 appears bright. With vaccines rolling out quickly now, there is reason for optimism that, by the third quarter, the Covid pandemic will have been brought largely under control and life will have begun to return to normal. Saving rates are already high due to past government fiscal support measures, and a new $1.9 trillion stimulus bill is likely to be passed by Congress soon. People are going to want to go out and spend.

Commodity prices have already begun to move up rapidly, but they will not so automatically shift to the core PCE, which excludes movements in food and energy prices. The Fed does not focus so much on commodity prices, which are highly volatile, but on wage inflation. A rapid rise in wages leads to a rise in the cost of all other goods and services, creating the possibility of a “wage-push inflation” spiral that could become difficult for the Fed to contain.

The high level of unemployment in the country makes a substantial increase in wages highly unlikely this year. We bet the Fed will hold the Federal Funds Rate very close to 0% and continue creating $120 billion (or more) every month for the rest of this year, just as they have been telling us they will do in speech after speech for the last many months.

What will be the most feasible scenario for the next few months? Markets on the rise, but also volatile. As evidence of mounting inflationary pressure builds during the months ahead, as it inevitably will, it is quite possible that investors will lose their nerve a time or two before 2022 arrives.

[Original source: Richard Duncan]