Veteran Wall Street trader shares some truths about inflation and the economy

In my 36 years of studying financial markets and the economy, there has never been a time quite as chaotic as this one. When you pile on the noise of our fractured political and media spheres, it can be nearly impossible to find genuine apolitical analysis of the economy. With a new series of columns I’m calling “The Macro,” I’ll try to take a step back and look at the big picture — both with respect to what is happening now, and what could be on the horizon for the American economy.

Here’s installment #1:

Our starting point will be the aftermath of the Great Recession of late 2008 and early 2009. Coming out of that time period and through to the pandemic, the Federal Reserve presided over an extraordinary period of low (literally almost “zero”) interest rates and maintained a $4 trillion balance sheet to ensure “easy” financial conditions. This went on for 11 years, which is also extraordinary, and was taking place all over the world.

When the COVID-19 pandemic hit, the Fed immediately ballooned the balance sheet to $8 trillion, and Congress (BOTH parties!) threw in $3.5 trillion within a two month period in an attempt to yank the economy out of the hole created by the lockdowns. At the time, I did not hear politicians of either party complain about the aggressive actions of the Federal Reserve, and since the CARES Act was passed unanimously, both major parties clearly bore responsible for the extreme amount of liquidity initially added to the economy. And if they were answering truthfully, all involved would do it again.

This liquidity, the Biden Administrations efficient vaccination program, and good ol’ what I call “American Economic Determination” brought America roaring back from the COVID ditch. The problem, however, was that in early 2021, global Supply, decimated by COVID,  was not ready for the Demand. The pandemic had wiped out the WORLD’s capacity to deliver goods efficiently in ALL sectors. I emphasize “World” because our Economy was, and is, truly a Global Economy, with “just in time” production and inventory strategies tied together in every corner of the globe keeping prices low.

Then…Poof!

One of the clearest examples of this phenomenon was in oil refining. Remember April 20, 2020? That was the day oil traded at “ZERO” —  literally 0.0! Global lockdowns caused a massive swoon in energy prices, and America lost 5% of its oil refining capacity in the blink of an eye, predominantly through the retirement of near-ancient refineries. Well, that 5% equals one million barrels a day, and that missing million became a nasty bottleneck later on and contributed mightily to our problems at the pump.

From this background, it is crucial to understand that TWO macro issues are now taking place at the same time.

First, the economy is strong — roaring, as I like to say. Nominally — meaning in total dollars — the economy is roughly 9% larger than it was just one year ago. That is a truly massive year-over-year gain. More than 5.8 million new jobs have been added in the last 12 months. That is nearly TRIPLE the rate of the three years prior to COVID, which were all considered strong years historically.

Unfortunately, in our divided political and media spheres, one side is never allowed to give the other credit, so we get an economy that is vastly larger, creating over 400,000 new jobs a month, described as “destroyed” or “a disaster” by half the nation’s politicians and pundits. This is that nasty NOISE I mentioned earlier.

Second, there is upward pressure on prices in all corners of the globe. And this, not surprisingly, has served as an enormous shock, given the previous extended period of minimal price pressures globally. The costs to families are real, and generate a negative bias within an economy that has two jobs available for every one worker in the market.

In short, there are TWO very important things going on here at once!

So, if that’s where we are, where are we headed?

The Fed has the ball here folks and its obvious objective is to try and walk a very fine line. To curb inflation, it must continue to raise rates, and take liquidity out of the economy. Like the driver seeking to gain control of a speeding car, the Fed has applied the brakes. The trick, of course, will be to pull off this feat without causing an accident or an outright stall.

In other words, it must strive to bring the ROAR down to a steady HUM.

The bottom line: Old bond traders have a saying (“Don’t Fight the Fed!”) because they know it’s an economic institution that will always prevail. For the rest of our sake, let’s hope its victory in this instance will be one in which all Americans can share.

Greg O’Connor is a small business owner who spent 24 years trading bonds on Wall Street. He is the founder of REAL ECONOMICS and lives in Mecklenburg County.