Why Wall St, the Fed & Treasury always get it wrong
They are non-native speakers without a Rosetta stone {"bird, squiggle, stick"...}
Interpretation requires context to be accurate, and the test of an accurate interpretation is that it makes sense.
If you ever study economics, you’ll be introduced to things like factors of production; supply and demand; inflation; price elasticity of demand; macroeconomics and microeconomics; money supply etc. In essence, you’ll be taken straight into the details. From the start, economics is not given any context and so is left to the vagaries of personal interpretation by taking these individual aspects (once you have achieved the status of a highly educated initiate who can confuse people with jargon) and extrapolating them in an attempt to understand what is going on.
In essence, it’s a shot in the dark. You might be better off trying the application of leeches … on second thought, that’s the financial system we currently have.
First principles
Economics is a subset of human society.
The formula by which economic activity is measured makes the number of economic agents the primary variable.
Those two key features are of primary importance and frame an accurate understanding of economics. They provide necessary context for correct interpretation and set ‘magnetic north’ in the discipline.
Where am I going with this? I found another data-based validation of a hypothesis that confirms my understanding is on the right track. That is to say, by starting from these first principles, my interpretations continue to line up and make sense (i.e. things seem to fall into place more readily).
This most recent validation confirms that the current consensus outlook by every major Wall St investment bank, the Federal Reserve, the U.S. Treasury Secretary etc. that the U.S. is heading for a soft landing is complete and utter baloney.
I laid out a summary of my primary big picture understanding of how the economy works in Layer Cake, which I posted in June of this year. That described how my research into demographics of several years ago showed a correlation to GDP growth. Later, I found that the variance between these two could be attributed to systemic leverage due to a long-standing societal behavioral trend and I was able to validate that hypothesis last December in a quite spectacular manner.
My most recent validation is built upon my existing understanding. I recently speculated that the U.S. wasn’t going to experience a soft landing because in the last 13 instances (over 70 years) of Fed rate hike cycles only 3 times ended in a soft landing and 2 of those 3 were due to demographic factors which don’t exist today. This was confirmed to my satisfaction in my recent analysis of loan delinquency data. A few days ago I came across another dataset that takes what was initially only speculation on my part based upon my economic understanding (which is pointing toward magnetic north, so likely to be more accurate than most) and confirmed by an interpretation of loan delinquency data using real-world understanding (i.e. observable societal trends). I am fully satisfied that this latest data validates my speculation of why the soft landings following the rate hikes of 1964/65 and 1994/95 were not engineered by the Fed but were, in fact, good luck not good management.
The above chart of the relationship between the Age Dependency Ratio of Older Dependents to Working Age Population has been rising steadily for decades, with two notable exceptions: the large working age population surges of 1965-1975 (Boomers) and 1995-2005 (Millennials).
When this ratio is measured as a year-over-year change in the percentage and compared to the Fed Funds rate, you see how the initial surge in economic participants was enough to offset the impacts of the preceding rate hike. However, in both instances, the Fed took confidence and gave the Fed Funds rate another nudge higher a year or few later, which gave them the recession they thought they had skillfully managed to avoid. It appears you can only push your luck so far.
As for the 1984 example, I’ve already suggested that this was due to Recency Bias (an effect I mentioned at the very start of this year that relates to major pivots in economic behavior) and that borrowers weren’t yet fully convinced that the change in interest rates between 1981 (when rates were near 20% p.a.) and 1984 signaled a change in long-term trend (and given that rates were elevated to start with, the stakes of getting it wrong were too high, so prudent behavior reigned). I may look at finding data that validates that interpretation at some stage in the future, but I’m in no rush because the Fed (and others) are pushing shit uphill with a pointy stick if they are thinking a 1-in-13 event (but more likely, 0-in-13 because we’re at the other end of the rate spectrum, i.e. recently off 0% p.a. and prudent behavior came in the form of “BTFD”) is grounds for their confidence of an economic soft landing in the current cycle is achievable. It just doesn’t gel with robust interpretation.
What I have found since I have developed a contextual framework for economic interpretation is that validating data just falls into place. There is no need for academic abstractions or even the use of specialist technical jargon.
It just makes sense.