When I was growing up in the Detroit area, the Zoo there did a famous commercial where the animals were getting ready to go “on stage” for the opening. At one point, all the monkeys ran to the right encouraged by one in the front saying “Ok guys, this way”. Then, all the monkeys ran back to the left with one criticizing the leader by sarcastically exclaiming “Nice going, Milton”. That was this week’s macro environment captured in 60 seconds. In other news, Jerome Powell fit the theme of the week by indicating the Fed was considering lowering rates…but not yet. Continuing the trend seen in the UK a week ago, a coalition of left-wing French political parties organized to hold off a huge push by Le Pen on the right. Prepare for more spending and taxes in France. Finally, we get a personal and retail view on goods inflation.

This week, we’ll address the following topics:

• The CPI comes in light. Market thinks rate cuts soon or now!
• The PPI comes in hot. Really hot. Market still thinks rate cuts. Anyone want to guess my opinion?
• Jerome Powell thinks inflation is coming down, but he’s not ready to lower rates. DKI applauds the man for his consistency.
• French elections offer the same lesson as the UK one. Don’t split your vote!
• Goods prices and furniture. Prices have stopped rising quickly, but are still too expensive for many.

Another big step this week for DKI Interns, Andrew Brown (University of Tennessee) and Alex Petrou (University of Exeter Business School). The two of them worked together to select the topics for this week’s 5 Things, prepared all the charts, and did most of the writing. These two young people saved me hours this week by doing outstanding work both on their own and in partnership. Well done!

Ready for a week of things being one way and then going back to the way it was¹? Let’s dive in:

1) A Dovish CPI Print:

In the latest Consumer Price Index (CPI) update for June, we saw yearly government-approved inflation of 3.0%, slipping below both last month’s 3.3% and the expected 3.1%. This marks the lowest annual inflation rate in three years, highlighted by a monthly decrease of 0.1% (the first drop for June in over four years). The core CPI, which removes the volatile food and energy components, increased by 3.3% annually, and only edged up by 0.1% from last month, just below expectations. The decline was largely driven by falling energy prices, with gasoline dropping 3.8% this month and 2.5% year-over-year. Despite this downtrend, Federal Reserve Chair Jerome Powell is on alert for potential inflation spikes, particularly from energy price fluctuations.

All Items and Core CPI fall again.

Many calling for rate cuts have forgotten where we were just a year ago.

DKI Takeaway: Market sentiment is leaning heavily towards a rate cut, with an 80% chance priced in for September. Echoing this sentiment, Chris Larkin from E-Trade at Morgan Stanley mentioned, ‘The June inflation report means the Fed is one step closer to a September rate cut. A lot can happen between now and September 18, but unless the numbers pivot back into ‘hot’ territory, the Fed’s reasoning for not cutting rates may no longer be justified. The Wall Street Journal called for rate cuts NOW, but may have forgotten about the 3% CPI head-fake just a year ago. Contrasting with the market’s optimism, DKI has a different perspective. We suggest that the Fed is likely to keep interest rates higher for longer. The concern; reigniting inflation, especially with potential energy volatility. Moreover, if the Fed acts before the November election, they will be perceived as taking political action, something they’d prefer to avoid. Investors should consider this nuanced view, balancing the prevailing market expectations with DKI’s more conservative outlook. Staying informed and flexible will be key as we navigate towards the September Fed meeting.

2) The PPI Comes in Hot:

The Producer Price Index (PPI) is similar to the CPI except it measures pricing changes experienced by manufacturers and suppliers of goods and services. Because prices changes in the PPI make their way into the CPI over time, the PPI is considered a leading indicator for the direction of future consumer prices. The June PPI was up 0.2% for the month which was above the 0.1% expected and last month’s -0.2%. The annual PPI was up 2.6% which was well above the 2.3% expected, a huge “beat”. The Core PPI, which excludes food and energy was up 3.0%, way above expectations of 2.5% and last month’s 2.3%. Even worse, the monthly Core number was expected to be 0.0%. Instead, May got revised up from 0.0% to 0.3% and June was 0.4%. That means the actual June results were about 0.7% above expectations.

This looked promising for a while, but the recent trend is not encouraging.

DKI Takeaway: Despite the below-expectations CPI print, inflation is not over yet. Following the CPI report, the market raised expectations for a September rate cut to over 80%. DKI disagreed. This very hot PPI print means it will be hard for the Fed to cut rates anytime soon. Because the PPI is forward-looking, this signals a higher CPI in a couple of months or so. We continue to believe that a Fed rate cut before the November election is unlikely and that it would take a significant downturn in the economy over the next couple of months for us to change our opinion on that. Hat tip to Contrarian Investor Media @PodContrarian and Mark Rossano @Markfny for contributing to this “Thing”.

3) Jerome Powell Testifies on Capitol Hill:

Last Tuesday and Wednesday, Federal Reserve Chairman, Jerome Powell, testified before Congress and the Senate, to present the Fed’s semiannual monetary policy report. As Powell highlighted last week, the strong labor market and overall economy is allowing the Federal Reserve time to slowly reduce inflation and also lower the risk of a future rebound of inflation. On the debt and spending front, Powell said that the path we’re on is “unsustainable”, taking a slight shot at Congressional overspending. Powell did signal that a slowing job market made him more inclined towards rate cuts which excited the stock market.

The market wants rate cuts. The people want lower inflation. Is Powell going to please Wall Street or Main Street. (Credit to Andrew and Alex for the creative images.)

DKI Takeaway: For the past few weeks, DKI has been defending Jerome Powell, and somehow, that trend will continue this week. These hearings demonstrated the true incompetency in Congress and the Senate. Politicians historically love to blame their actions on others leading to claims that inflation was caused by “corporate greed”, Vladimir Putin, temporary supply chain issues, or the boogeyman. We think people should consider the massive fiscal stimulus Congress has supported for the past 4 years as the primary cause. Additionally, we saw politicians pushing for regulation on banks with Basel III Endgame forcing larger capital reserves. However, when banks lend irresponsibly and cause failures, the politicians run to bail them out. In a true market economy, banks would be incentivized to increase their capital reserves, because if they failed, the government would not come running to bail them out. Although Powell hinted at potential rate cuts, he emphasized that he needs to see more data to gain confidence that inflation is heading to 2% and not likely to bounce back again. DKI still believes that rates will remain higher for longer, but you either knew that or are new here (welcome).

4) French Elections Follow the UK Model:

The recent French parliamentary elections were quite the twist worthy of any political drama. Le Pen (on the right) didn’t make the cut, leaving Macron (on the left) to stick around until 2027. This wasn’t a presidential race but a battle for the 577 seats in the National Assembly, where a party needs 289 for a majority. The left came out strong partly due to superior organization causing a shift in the political landscape. The election process is a two-round system in France. In the first round, only 76 constituencies saw candidates secure an absolute majority, avoiding a second round. Here, Le Pen nabbed 38 seats, the NFP (on the left) secured 32, Macron’s left-centrists took 2, and the right-wing Republicans got 1. The second round was where things really heated up: Republicans added 44 seats, Le Pen scored another 105, Macron’s team surged with 166 seats, and the NFP gained a hefty 150. When the dust settled, the totals were: NFP with 182 seats, Macron’s camp with 168, Le Pen with 143, and the Republicans with 45. Still, they’re all 107 seats shy of a majority. Polls had predicted a strong showing for Le Pen, with expectations between 175-205 seats. Ultimately, the NFP emerged victorious, securing the most seats in the National Assembly.

The French are still sorting out the election implications. Image from Chat GPT.

DKI Takeaway: The New Popular Front (NFP) aims to raise the monthly minimum wage to €1,600, implement price caps on essential items such as food, electricity, gas, and petrol, and repeal Macron’s unpopular decision to raise the retirement age to 64. They also plan significant expenditures on green energy and public services. NFP’s most radical change proposes high-spending policies, including a 90% tax on incomes above €400,000, increasing public sector pay, freezing prices on essential goods, and increasing other government spending. Critics, including President Macron, argue that the program is financially unviable, estimating its cost at €287 billion annually, while the budget minister estimates €100 billion per year. Experts warn that many NFP policies may violate French and EU laws, including the EU’s Stability and Growth Pact.

5) Local Business Insight on Inflation:

A local furniture store graciously welcomed DKI intern, Andrew Brown, to analyze furniture prices and compare them to our inflation statistics. (As the furniture store is owned by Andrew’s parents, DKI adds that they were extraordinarily gracious.) As we know, the Consumer Price Index (CPI) is often criticized for being a “rigged” measure of inflation (especially here at DKI). The government adjusts certain components in the index to bolster its narrative of a “strong” economy. However, prices remain high across almost all sectors. The CPI tracks price changes month-to-month and year-over-year, but this method has significant flaws. For instance, examining the average price of sofas in the family store from 2020 to 2021 reveals a staggering 34% increase. Local business owners report that, instead of seeing falling prices, they are experiencing a plateau. The only price drop they have seen is in shipping costs, and even this decline is not as widespread as the CPI suggests.

Can anyone take a guess when we got the extraordinary government stimulus?

DKI Takeaway: The massive fiscal stimulus from Washington ultimately benefits the wealthy, a trend evident in this business as well. The store features two price points: a higher-priced product section, which has seen an 11% increase year-to-date, and an outlet offering lower-priced products, which is down 16% year-to-date. This disparity highlights the true effect of inflation in America. The wealthier class continues to spend as asset prices climb, while inflation significantly impacts lower-income individuals more. The reality of inflation is that prices are not decreasing. Instead, price growth for goods has stalled, leading to a plateau, as illustrated in the graph. In the end, we must wait for the market to catch up with today’s higher prices, as interest rates alone won’t completely address inflation. Many fiat economists are thrilled with our disinflation (a reduction in the rate of inflation). Most people are still having difficulty living with elevated price levels even if the rate of increase has subsided.

 

Your 5 Things to Know video version: https://www.youtube.com/watch?v=iatX2qR93AI

 

¹ This is indeed a Futurama reference from the episode “Future Stock”. We couldn’t get a rights’-free version of the video to use.. ↩

 

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