Fed’s Outdated Navigation Is Leading the Economy Astray

RADCO Cos.' Norman Radow on how antiquated metrics make a recession probable.

Norman Radow

When the words, “As is often the case, we are navigating by the stars under cloudy skies,” were uttered during a recent public speech, listeners likely wondered the origin of what surely must be a historical quote from the days when seafaring explorers and naval commanders relied on the night skies to reach their destinations. Surprisingly, the phrase was used just last month by Federal Reserve Chairman Jerome Powell in admitting that he and his board of governors were essentially rudderless in projecting where the U.S. economy is heading.

As impossible as this parroted metaphor from Powell’s speech is at face value, it speaks an unnerving truth. The Fed continues to rely on old rules, formulas, and data to chart decisions about a path forward for our economy. The Fed has raised rates three times since the Fed Funds rate hit 4.75 earlier this year, a level many economists had believed was the appropriate level for economic stability. Today the rate is 5.5 percent. The Fed is seemingly zig-zagging its way through an economic mess of its own making.

A significant part of the issue is that the Fed refuses to veer from antiquated metrics established long before satellites, sophisticated radar, and cell phones even existed. Consider housing costs, which represent over 30 percent of the Fed’s CPI index. CPI for shelter is surveyed and ultimately calculated consisting of four parts: owner equivalent rent, rent of primary residence, lodging away from home, and tenant and household insurance. However, the owner-equivalent rent (what an owned home would rent for) makes up nearly 75 percent of the calculation.

In 1950, it made sense to determine housing costs by conducting monthly phone surveys of homeowners. The U.S. population was about 150 million and the Fed called 50,000 homeowners per month on their home phones. Today, the Fed still calls 50,000 Americans each month at home (yes, on landlines!) to ask the same questions. But today we have over 331 million people, making the survey far less representative, not to mention that many households no longer have landlines while those who do typically screen their calls and rarely answer surveys. So just who is the Fed speaking to? Why is the Fed still using the stars to navigate when modern analytics and tools are available to provide it with more accurate and near-instantaneous data?

Other blindspots

Another confusing aspect of Fed-think is its reliance on labor statistics to promote monetary policy. The labor rate is a trailing indicator. Why look ahead using trailing data? Even so, just two weeks ago the Labor Department reported job growth was the slowest since the beginning of the pandemic. What’s more, the Labor Department reported a reduction in jobs created by 110,000 for the prior two months, while during the same period the nation lost 670,000 permanent jobs and replaced them with a million part-time positions. Without the new jobs tied to infrastructure bill projects to prop them up, the numbers would plummet further.

Within the real estate industry, the Fed’s continuing interest rate hikes have pushed many owners to the brink. At the same time, rents are coming down, 5.3 percent year over year in Atlanta, with similar pressures in the four other states we operate in. Yet, in July, the Fed reported over 4 percent year-over-year inflation. Interestingly, 90 percent of the inflation reported came from housing. Yet, rents are lower. So much for the Fed’s 1950 housing cost survey.

Banks and other lenders are seriously exposed to the rise and fall of real estate. If real estate suffers any further—if it breaks—many banks and lenders could be caught up in the carnage. Surely, even with cloudy skies obscuring the Fed’s vision of the ancient stars, they should still be able to see the danger ahead and navigate around it. 

Certainly, the Fed’s actions have reaped some benefits in the areas it can control in the fight against inflation. The increase in the labor participation rate and the plummeting costs of raw goods and transportation in July are good signs. But banks have effectively stopped lending and retail sales are down in many sectors, a combination that is crushing to many industries.

Even the Fed reported inflation is down by more than two-thirds in less than a year. GDP growth is only modest. Labor rates and labor costs are moderating. The distortions caused by the uneven reopening of the post-COVID world economy are coming to an end.

Sadly, focused on its 2 percent target, the Fed is ignoring the broader, unprecedented economic problems that present a much bigger risk than “sticky” inflation. The Fed’s reliance on the stars to navigate our economy is about to lead us into a recession if the Fed is not careful. Many industries are showing signs of stress. It is critical to read these signs now to prevent wider damage.

In 2023, would we fly on an airline that navigated using the stars on a cloudy day? Of course not! So why navigate the most complex and powerful economy in the world using antiquated methodologies and tools? I see the dense clouds as well, Mr. Powell. But instead of looking behind us, in addition to scanning the horizon for stars you may not be able to see, it is time to use Weather.com and GPS. Then, despite the clouds, you can find the path toward the clearer skies that lie ahead.

Norman Radow is CEO of The RADCO Cos.

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