U.S. Economy Is Evolving. So Should the Fed.
(Bloomberg Opinion) -- The two big macroeconomic data surprises over the past few days should encourage greater humility and open-mindedness in the way policy makers, economists and Wall Street analyze the U.S. economy. If they don’t, they will significantly increase the risk that a policy mistake, a market accident or both will derail what should and needs to be a long period of high, inclusive and durable growth.
Friday’s shockingly disappointing jobs number and Wednesday’s much greater-than-expected surge in inflation have more in common than just embarrassing many economic forecasters. They also suggest — and I use suggest because it would be foolish to draw any firm conclusions based on a single month’s data — that widespread supply rigidities are accompanying what, according to the overwhelming majority of other macro and micro data, is a big step up in the scale and scope of aggregate demand. Indeed, the two are linked. Historically, economists have found it difficult to predict structural changes in the supply side of the economy, especially when the demand side is incredibly fluid.
The possibility that both the supply and demand side of the economy are evolving structurally is something that we should have an open mind to; and it is also something that calls for a significant degree of humility. Yet the Federal Reserve, in particular, remains highly vocal in asserting again and again that the increase in inflation is just transitory — a conviction that is not supported by evidence, at least as of now. With that, the central bank is showing absolutely no inkling of a desire to reassess a policy approach that has remained steadfastly unchanged — and seemingly little challenged internally — despite accumulating macro and company-related evidence that indicate it would be prudent to consider a broad range of possible economic and policy outcomes.
The big hope is that Fed officials will be proved right in their call on transitory inflation and help deliver a smooth transition for the economy, markets and policy making. The risk is that the Fed will fall behind, forcing the markets to start a more disorderly process that could risk economic well-being and unsettling financial instability.
If nothing else, the recent data suggest the Fed, as well as Wall Street analysts, should be thinking much more in terms of scenarios rather than a single baseline that they hold on to with an enormous degree of conviction that is not supported by a sufficient foundation. And it they were to open their mindset more, they would probably soon abandon the notion of “not even thinking about thinking” about the need for possible policy adjustments.
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Mohamed A. El-Erian is a Bloomberg Opinion columnist. He is president of Queens’ College, Cambridge; chief economic adviser at Allianz SE, the parent company of Pimco where he served as CEO and co-CIO; and chair of Gramercy Fund Management. His books include "The Only Game in Town" and "When Markets Collide."
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