As the Federal Reserve confirms plans to cut interest rates later this year, Jay Powell’s shifty stance on inflation has left many Fed watchers scratching their heads – and others crying foul.
On Wednesday, Fed policymakers opted to keep their benchmark Funds rate unchanged for now, as expected. However, they also telegraphed three rate cuts in 2024.
Fed chairman Jerome Powell’s dovish remarks following the decision brought cheers from Wall Street and presumably the White House as well.
But Powell had a tough time telling a coherent story between prepared remarks and testimony on Capitol Hill. He admitted that inflation remains elevated above the Fed’s 2% target and said he can’t offer any assurance that it will come down.
But that’s okay because it’s not actually the Fed’s goal to see inflation come down – even though Powell thinks it’s currently too high. The Fed will view it as progress if inflation stays where it’s at. Because that will somehow mean inflation is on a path lower – even if it’s not actually moving lower.
It would probably require an advanced degree in Fedspeak to make sense of what the 2% inflation target actually means these days. But you can listen to Powell’s words for yourself and see if you can decipher what the heck he’s trying to say.
Jerome Powell: Inflation is still too high. Ongoing progress in bringing it down is not assured, and the path forward is uncertain. We are fully committed to returning inflation to our 2% goal.
We’re not looking for inflation to go all the way down to 2%, that’s not what we’re looking for. What we want is just more evidence that will give us more confidence that inflation is on a path down to 2% sustainably. So, that will come in the form of good inflation readings, really.
We’d like to see more, good, relatively low inflation readings. We’re not looking for better inflation readings than we’ve had, we’re just looking for more of them. So, we’re just being careful. And because the economy is so strong and the labor market’s so strong, we think we can and should be careful.
If the economy really is “so strong” as Powell claims, and inflation is still running too high as he admits, then central bankers would seem to have a clear mandate to engage in monetary tightening, not easing. With the stock market already trading at record highs, more stimulus in the form of rate cuts could risk blowing up a massive bubble.
Jay Powell and company cannot articulate a clear rationale for rate cuts that makes any sense from the standpoint of the Fed’s mandate to pursue price stability. Powell’s attempt this week to justify a pivot toward easing was so nonsensical that critics say the real reason why the Fed is readying rate cuts is politics.
It is an election year, after all. And Democrats know that the economy falling into recession would be a disaster for the re-election prospects of Joe Biden. They want to keep the numbers propped up through November at all costs.
The Fed describes itself as an independent institution that is unmoved by politics. But a group of Senate Democrats led by ultra-liberal Elizabeth Warren apparently thinks the Fed can be moved by political pressure.
Warren and her allies are demanding the Fed cut rates as soon as possible. They say “green” jobs created by the so-called Inflation Reduction Act are at risk as the alternative energy sector struggles with high financing costs.
Warren is asking central bankers to effectively let inflation run hotter in the name of supporting Biden’s Green New Deal programs. These programs were sold to the public under the guise of “inflation reduction.” The irony apparently doesn’t register with Elizabeth Warren.
In any event, investors should be prepared for high inflation to persist. Inflation risks may be to the upside near term as the election approaches and new stimulus schemes get rolled out.
The price direction of precious metals markets may also be to the upside in the months and years ahead.
This week gold is trading back up near record highs. As of this Friday recording, the monetary metal checks in at $2,173 per ounce, reflecting a slight weekly gain of 0.3%.
Silver is lagging, off 2.0% for the week to trade at $24.86 an ounce. Platinum is pulling back as well, down 4.4% to trade at $906. And finally, palladium prices are off close to $90 or 7.8% this week to come in at $1,027 per ounce.
Metals markets faced the headwind of a rising U.S. Dollar Index this week. The Federal Reserve note gained against foreign currencies despite the Fed’s dovish embrace of rate cuts.
The dollar’s apparent relative strength may have more to do with trend-chasing capital flowing into U.S. equity and bond markets. Financial assets are getting a boost from expectations of lower rates. But by the time the first rate cut comes, investor enthusiasm may have already peaked.
When optimism fades and concerns about inflation and the economy come to the forefront, precious metals will likely have the opportunity to begin outperforming vulnerable financial assets.
Well now, without further delay, let’s get right to our exclusive interview with Axel Merk.
Mike Maharrey: Good afternoon. Well, it’s afternoon now. It might not be afternoon when you’re listening, but this is Mike Maharrey at Money Metals and I am a journalist and analyst for Money Metals, and I’m here today with Axel Merk. He is the president and chief investment officer of Merk Investments and he specializes in analyzing macro trends. You can find them all over the place and happy to have you here on the day after a Fed meeting. I appreciate you taking the time.
Axel Merk: My pleasure. Yeah, we also manage over a billion these days in gold and gold mining, but we like to muse about the macro trends and not because we love predicting the GDP to the second decimal, but it matters when the bazooka known as the Federal Reserve acts, and so that’s why we watch them, not because we love economic forecasts.
Mike Maharrey: Right. Well I thought this meeting was kind of interesting because I mean, from a substantive standpoint, they didn’t actually do anything. There was no policy change, so everybody’s fixated on the projections and the messaging and it seemed to me like the message that Powell was trying to get out there was that, hey, we’ve got this under control, everything’s good. And he conceded that the journey downward in price inflation might be, I think he called it a bumpy ride, but maybe that’s fair, but let me start with this. Do you think the Fed has gone far enough to slay this price inflation monster?
Axel Merk: All right, how many hours do we have here? Let me try to untangle what you said. First you said the Federal Reserve is focused on the messaging and you’re absolutely right on that, but that’s already the first problem because as I mentioned, the Federal Reserve has the bazooka, so we have to pay attention to what they do with this bazooka. With this bazooka, they gave us the Great Depression. They gave us great inflation in 1970s. They gave us great inflation now. And they’re doubling down with their messaging. If you took a step back and they had a more quantitative approach to what they’re doing, maybe we wouldn’t need to read the tea leaves into what they’re doing, but we can of course complain all we want.
We’ve dealt with what we have. And when you ask me whether they have done enough, well no, they haven’t done enough in the sense that again, if they had a quantitative approach, a reaction function the economists like to call it, then that would be good. But it doesn’t matter what they do tomorrow, it matters what happens over the medium to long term. And they don’t know what they want to do. What we do know is how they work. They are a committee, which means they’re going to be late in most things that they do. They were late in raising rates and now at maybe the tail end as they hope they are, they have said, hey, mission accomplished. That’s what the pivot higher for longer last October that Fetcher [inaudible 00:03:02] did, which then did affect the metals, but what’s next? What’s next?
So it’s not enough to say, hey, inflation comes down and it’s good. Bernanke, I think a fan of everybody in this audience here, he wrote a book that then he updated. Well, if the inflation came and said, there I tend to agree with him, once inflation is high, it doesn’t go down linearly. Powell now eloquently likes to talk about a bumpy road, but if you want inflation to be down, you got to have a credible long-term plan. Now the Fed may not be credible in the eyes of many gold bucks watching this, and the Fed is credible when you look at the long-term treasury market because those markets are reasonably well-behaved. So I guess that’s quote unquote good enough. But if you ask me whether they have done enough, no, because in my view, their approach to communication is a wrong one and adds to volatility which kills jobs and doesn’t help inflation.
Mike Maharrey: Yeah, I think that’s a good point and I wonder sometimes if you kind of really parse out what they say, a lot of times it’s almost like they’re talking out of both ends of their mouth, right? It’s like it could go either way. You could take the messaging today and a month from now no matter what they do, you can say, well, that’s pretty much you told us this could happen. And I think it’s interesting that the big focus was the dot plots and the projections for interest rate cuts, three more this year is still what they’re saying despite what some might argue is a little bit of a heating up of the inflation data. But it’s interesting because if you go back and look at past dot plots, it’s not exactly the most accurate gauge of what’s happening, they’re not right about those dot plots most of the time. I think somebody analyzed it came up with something in the neighborhood of 38%. What do you put into these dot plots? I mean, how do you kind of look at them as an analyst?
Axel Merk: You and I as well, we’ve been around the block a few times, and you may recall that the dot plots have been, we’ve been told about everybody misunderstands these dot plots, don’t pay attention to them. Those are just opinions. They reflect policy that goes in, they don’t affect policy. And then as of about a year ago, suddenly they have become a tool to give forward guidance. And by the way, last year we were told that forward guidance is dead. And to just circle back to earlier about whether they have done enough, the reason why forward guidance is so destructive is because the Federal Reserve over the years since 2008 has taken so many of the market gauges away about how healthy this economy is. It used to be that you could look at the yield curve and get a feedback about the health of the economy. And then QE happened, Operation Twist, all kinds of things, and now the focus on the dot plots, this is how we are going to do things. And that is not helpful to say the least.
And they’re just human beings at the Fed and then we try to study which Fed official has which thought and whatnot. If we just take all of this aside for a moment and think about where we are, we are of course in the situation that depending on where your bias is, you’ll think the economy is doing just fine or the economy is slowing down. I guess that’s good because it makes the market. Economists at the Fed, they like to look at the longer series of data. By the way, one of the reasons why it’s bad is just looking at that rather than market-based indicators that are real-time and forward-looking, but especially the January data coming out in February tend to be super distorted because they include revisions from the previous year.
I like to point out the January jobs report, for example, that was quote unquote better than expected. Well, every January people lose jobs and throughout the month people lose jobs, but the Department of Labor samples it in a given week and this year that sampling was early based on how the calendar fell, which means the numbers were better than expected. It doesn’t tell you anything about the health of the job market. It tells you a lot about the minute details about how these data are collected. And so guess what? Powell says, well, we don’t really know, but trust us, everything is going to be fine. And the market realized, oh yeah, I guess everything is going to be fine. And it is until it isn’t. And so ultimately they’re just cooking with salt. The reason we pay attention to it anyway is again because they have the bazooka and it matters what they say.
Mike Maharrey: That’s kind of funny because I often say that, it is until it isn’t. It is very true. I say that about just the trajectory of the economy. I think a lot of people look at the five, five and a half or I guess technically five and a quarter to five and a half with the Fed rates right now, and they’ll say, well, we’ve been here and nothing bad’s happened, so nothing bad’s going to happen. Well, I’m skeptical of that personally. I’m interested in your view of do you think that the interest rate level that we’re at now is causing damage in the economy that maybe people aren’t seeing?
Axel Merk: A few things. First of all, neither you nor I nor the Fed has a crystal ball, none of us know what will happen. The role I see myself in as an asset manager is in managing risk. And so I ask myself what could possibly go wrong? And that is both on the downside and on the upside, whichever market that you’re looking at. And historically, when the Federal Reserve is in a tight environment, they succeed in getting the economy into a recession. Historically, the Federal Reserve then has to react more sharply than they otherwise would, than they had planned previously. Now economic data have been stronger than expected. We have seen credit spreads being reasonably tight. And so, one of the things that happened just about a year ago, the Federal Reserve provided a stopgap measure to the banking system, to the small banks, by converting an acute into chronic banking problem.
But we don’t have those systemic risks so to speak. We also have a massive stimulus as evidenced in the deficits. That said, if you look at delinquency rates in consumers, for example, they have been rising. Now I bet on the consumer because the consumer is two thirds of the economy, so I say we are going to have an economic trajectory that’s worse than forecast. Will I be right on that? I don’t know, but it is part of the risk assessment that I do, and since I believe this is somewhat of a gold program, we can talk about that this actually has implications for the price of gold, most notably because if you have a soft landing, often market participants discount that and the S&P 500 is forward-looking. Whereas if you have a hard landing, then people tend to more aggressively or assertively look for that verification because equities tend to do poorly.
And so if you are investing in gold or gold minus, it matters whether there’s a soft landing or a hard landing. That said, it also matters whether we are in a tightening or an easing cycle, and I would argue ever since last October we have started an easing cycle even though rates haven’t come down because obviously focus are forward-looking and the Federal Reserve has signaled that they’ve moved on from higher for longer. Sure enough, that is why, in my view anyway, the price of gold and gold minus have started to see some signs of life. And so they are all related, but if you really want to price up gold and then gold minus to take off, a more severe recession is quote unquote helpful.
Mike Maharrey: Yeah, that makes total sense. I wish more people in this space had the kind of humility that you do in terms of acknowledging and recognizing we don’t have-
Axel Merk: It’s because I’m old enough and I’ve been around the block. You become humble. If you’re a survivor, you become humble.
Mike Maharrey: That’s true. Yeah. Once you’re knocked down a couple of times you start to recognize. I want to pivot back to gold in just a second, but I want to touch on one more thing about the Fed. We tend to focus mostly on the interest rates, but I’m really interested in the balance sheet and we’ve had some balance sheet reduction and Powell kind of indicated we might see a slowing of quantitative tightening in the next, he didn’t really give any kind of timeframe, but obviously he’s talking about the relatively near future. And they’ve run off about, I guess, one and a half trillion dollars off the balance sheet since they started the tightening cycle, which sounds impressive, but of course they added 5 trillion during the pandemic, so maybe not so much. I’m curious of what your impression of what’s going on with the balance sheet and how that plays into this and maybe tie that into the national debt and the bond market because obviously whether or not the Fed is buying bonds or letting bonds run off the balance sheet has an implication in that market.
Axel Merk: Well, let me give you a very technical term, keep it simple, stupid. I mentioned earlier that it’s shameful that the Federal Reserve has taken market-based gauges away. This is yet another example. It used to be that the New York desk at the Treasury used to intervene in the market in order to manage the Federal funds rate. And in 2008, that was thrown out by paying interest on the reserves. One of the huge advantages of doing the direct intervention the market is that at least the New York Fed gets an immediate feedback regarding the health of the banking system, whereas when you pay interest on the reserves, the one thing they see is that they have no clue what’s going on. Because you have different regulatory environments for different participants in the markets, you have contradictory relations. And so one measure might be tightening for one player, another for the other player, and one of the reasons they’re slowing down quantitative tightening is because they do not know where the pain points are.
Now they do know that there is a pain point and by slowing down they want to approach that. And we do know that if they reach that, that they will ease again or at least move away from that. So the lesson here is that we know that they will make sure that they’re not going to wreck the financial system with QT, but that doesn’t help them much in setting monetary policy, which their old way of managing the Federal funds rate was helpful for. And so we are looking, is QT helpful? Is it not helpful? It’s all a pencil pushing exercise that does not further their mandate but is just blowing up the complexity in the system. That’s absolutely not necessary. And so yes, I mean on the other end of the spectrum, it matters what the bond issuances are and clearly our deficits are significant and so a lot needs to be issued.
The only broader point I’d like to make is that a central bank has the luxury and is able to pursue a sound monetary policy when the fiscal house is in order, whereas when the fiscal house is not in order, they’ll do what [inaudible 00:15:02] did. We’ll do whatever it takes. And that’s the benign version. Zimbabwe is obviously the most severe version of that. And so it limits somewhat what they can do because they deal with the market realities. The only thing I’d like to add is that Powell is perfectly aware of much of that when he said in the press conference that liquidity is uneven and that means, yeah, we have no idea what the stress parts are.
Mike Maharrey: That’s a little bit frightening when you think about it, but I guess-
Axel Merk: They have a fire hose. We always put liquidity out there, so that always works.
Mike Maharrey: Right, right, right. A fire hose and a bazooka. The grand monetary policy tools. You mentioned gold and I think most people are probably aware that gold has set a couple of records over the last few weeks and we’ve seen prices at least yesterday after the Fed meeting of over $2,200 an ounce. So what do you make of this gold rally, do you think is it sustainable? Have we kind of set a new price floor or could we see it still off? How do you kind of see the trajectory of gold and maybe in the short to medium term?
Axel Merk: Yeah, interesting. You asked for the sustainable. Actually just had somebody in my office show me the projection of the various brokerage firms on the street and they range, if I just glance at that here in front of me, for 2025 from 1875 to 2200. But then if you go long-term, their projections are from 1850 to 2300 depending on who you look at. I tend to tell people, hey, in any asset, if you think that there’s an increase of a few percentage points each year, you have no idea what you’re talking about, because you say that because you’ve got nothing else to say. And just like the Fed projections, none of us know what really will happen.
Now, I mentioned we manage gold and gold miners, and so we see a little bit of where the demand comes from. And on the gold side, I’m not telling anybody any secrets here. Much of the demand have been coming from foreign central banks. It’s in my view, directly related to US policy where they are, let’s just say, incentivized to look for alternative ways to be holding their reserves. And it’s not like they necessarily love gold, but they don’t like to hold treasuries and gold is one of the places that they see as an alternative. They’re not going to be able to get rid of the dollar anytime soon. It’s just too dominant. But gold is a beneficiary as part of that process.
Other gold buyers, I historically say is part of that is the diversification buyer. In 2022, diversification didn’t work. Most years it does work. Those buyers are in the market. There’s the buyer concerned about the purchasing power of the dollar, that’s kind of affecting all aspects, including lower interest rates. Those are increasingly coming back. The one buyer that we don’t see much of these days is what I’d call the speculator that just loves a good trend. Those guys tend to focus on the digital assets and the [inaudible 00:18:19] stocks before. I have no doubt they can come back should there be a good rally or a good decline in the price of gold.
In the medium term, again, it depends a little bit where one’s economic outlook is. And one thing that some people realize as we were going through this high inflation environment is when inflation takes higher, the first reaction in the market is often for the data to strengthen and gold to weaken. And the reason is because there’s the perception that the central bank will do the right thing and tighten. It’s then only over time when they realize what the reality is and then it can weaken again. It’s a little bit more obvious when you reach the peak of the tightening cycle and then the subsequent easing is anticipated. I happen to be in the camp that the economy will be worse than forecast, which means the Federal Reserve will use modern forecasts, and that’s favored to the price of gold.
Mike Maharrey: Yeah, you and I are in agreement there. You had a tweet today that I saw. I guess you’re not really supposed to call it a tweet anymore. Maybe I should say you Exed. You said another day on which gold has not changed, the price of gold has, or the dollar sign gold. Can you elaborate on that?
Axel Merk: Well, I do like to remind people periodically that gold is the static thing in the world. It’s everything around it that changes, mostly the assessment of how things are. It’s one of these things, if you’ve held gold historically as part of a folio, it’s done wonders in terms of diversification, performance has been decent, but you never quite know why should you hold this barbaric relic in the future? And I tell people, well, you have a $20 note in your wallet and that’s not a productive asset either, but there’s a purpose for that.
And so when you have a government who has excessive and unsustainable deficits, the incentives of the government are not aligned with your incentives as a saver. When I say, well, gold doesn’t change, it’s the dollar that’s weakening, it’s not that gold is strengthening. The amazing thing is that gold creates such strong emotions in people, even though gold is not changing. And I call it kind of the purest indicator of the monetary madness that’s out there because it’s just a direct reflection of monetary policy. And one of the things that’s maybe different from gold versus other metals and other things is because it is so pure, it is such a direct reflection. If you take silver already, the industrial use is more significant and that makes the dynamics of the price of gold much more complex. And so in some ways, I’m just a simpleton that I focus on gold.
Mike Maharrey: Yeah, that makes sense. It is interesting, silver is a whole other ball of wax, so we won’t try to get into, our time is nearing an end, but it does tend to track with gold over time, but definitely a lot more volatile because of that industrial demand. Which incidentally, the industrial demand for silver is projected to be at record levels this year. Just for folks that might be thinking about silver. So as we wrap up, can you let people know if they’re interested in following you, where can they find you? What’s the best place to follow?
Axel Merk: You mentioned one place, Twitter @AxelMerk is my handle, and that’s really the best way to get live interpretation of any events that are happening out there, mostly related to gold and monetary policy. I do be off-topic sometimes. And then beyond that merkinvestments.com, M-E-R-K investments.com is our main website. From there you can subscribe to newsletter, there you can see what we do on the gold and gold mining side of things, explore that a little bit. And then maybe again, in your program and some weeks and months to come to learn more about what my opinion is. I try to get people a little bit out of the comfort zone. So again, I’m not pretending to be always right, but I do try to get people thinking.
Mike Maharrey: Well, and that’s a good thing. We need more thinking in this day and age. No doubt about that. Well, I really appreciate you taking a little bit of time out of your day. I’m sure this is a busy day being a post Fed meeting day, so I appreciate that you’ve carved out a little bit of time to talk to us and really appreciate your insights and would love to have you back at some point.
Axel Merk: Yeah, my pleasure.
Mike Maharrey: All right, thank you.
Another good interview there from Mike Maharrey, and we always love getting the insights of Axel Merk. He has a great handle on these markets and what makes them move.
Well, that will do it for this week. Be sure to check back next Friday for our next Weekly Market Wrap Podcast. And remember to tune in as well to the Money Metals Midweek Memo, hosted by Mike Maharrey. I strongly encourage you to check out Mike’s podcast each week if you’re not already doing so. Just go to MoneyMetals.com/podcasts or find that on whatever podcast platform you prefer.
Until next time, this has been Mike Gleason with Money Metals Exchange, thanks for listening and have a wonderful weekend everybody.
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