Published: Oct 15, 2024, summary by o1-preview
The podcast caught my attention as interest rates surged from 0 to 500 basis points within a year, yet the economy remained largely stable and is now rebounding. This led me to explore how interest rate changes affect the US compared to other countries.
I found a few things that stuck out which are summarized below: (My thoughts are in italics)
Unusual Services-Driven Economic Cycle: The recent economic cycle was primarily propelled by the services sector rather than traditional cyclical industries like manufacturing and construction. Since services are less sensitive to interest rate changes, conventional monetary policy tools had a muted impact. Tech stocks have roared in the past year and near ATHs. Makes me wonder if this underscores the benefits of having very large, high margin businesses that can absorb the flight "to quality" that happens when interest rates rise. MAG7 have dominated much of the S&P returns.
Muted Impact of Interest Rate Hikes: Despite aggressive rate hikes by the Federal Reserve, the anticipated sharp economic downturn did not materialize. This was surprising due to factors like the prevalence of 30-year fixed-rate mortgages, which insulated consumers from immediate effects of rising rates. Byrne Hobart wrote about how 30 year mortgages are a financially toxic product, mostly because they insulate US consumers from interest rates, which means you have to raise more for the desired transmission effect and the rest of the world being pegged to the US, has to absorb the shock.
Supply Shocks as Primary Inflation Driver: Goolsbee emphasized that the surge in inflation was largely due to supply chain disruptions and other supply-side issues, not excessive demand. He suggested that "team supply shock" would have been a more accurate term than "team transitory."
Anchored Inflation Expectations: Long-term inflation expectations remained stable despite high actual inflation rates. This anchoring prevented a wage-price spiral and facilitated the decline of inflation as supply conditions improved. He talks about the Fed's credibility and how people believe the Fed will act to bring inflation down, which helps keep inflation expectations anchored.
Passive Tightening Through Real Interest Rates: As nominal rates remained steady and inflation decreased, real interest rates effectively increased without additional nominal hikes. This "passive tightening" further cooled inflation.
Reduced Effectiveness of Traditional Monetary Tools: Structural changes, such as strong corporate balance sheets and the dominance of fixed-rate mortgages, reduced the economy's sensitivity to interest rate adjustments, challenging traditional monetary policy models.
Odd Lots Podcast: Austan Goolsbee on How This Cycle Turned Out To Be So Different