The Fed's Perfect History of Textbook Crash Landings

Photo by Josh Seff on Unsplash

In today’s lead article, Jesse Felder decries the numerous stories in recent financial headlines written by analysts who are inhaling the “soft landing” narcotics that have floated the recent stock rally, and he notes how this euphoric disconnect from the harsher realities below happen before all major market crashes during deep recessions:

Investors have now gone “all in” on the soft-landing narrative, just like they did in 1989, 2000 and 2007.

Others in today’s news, like David Rosenberg, also reflect on the soft-landing errors in those same years, which led right to the cusp of market insanity just before the economy rolled over into recession and the stock market dove into a crash. Rosenberg writes of all the criticism he has taken from the impatient hopium addicts when he predicted those very crashes.

One of the main points I made in last week’s “Deeper Dive” was that the latest release of GDP data presented a text-book picture of a perfect landing for Pilot Powell as he brings his 747-size inflation down. What report could have been better — inflation settling on a smooth glide path toward the Fed’s tarmac target while the economy continues to cruise on by smoothly at an altitude of 2.4% GDP growth? It’s a smooth landing for inflation and no landing at all for the economy. Perfect score.

Except, I noted that even the Fed doesn’t believe that, nor does its chief corporate partner in crime BlackRock. Suddenly, in today’s news many stories are questioning what appeared to be a glide path toward a perfect landing, including The Washington Post:

After a string of encouraging data, markets are displaying increasing optimism that the Federal Reserve might be done with its battle against inflation — and that the US will experience a rare “soft landing,” in which inflation falls back to 2% and the economy cools without dipping into recession….

To assess the chances of a soft landing, one must consider three questions. First, will the effects of the Fed’s tightening keep mounting, thanks to lags in monetary policy? Second, once those lags have played out, will the Fed’s stance be sufficiently tight to keep growth in check? And third, does the unemployment rate need to go much higher to bring inflation back down to the Fed’s 2% target?

The first and third points there are ones I pointed out as being strongly disconnected from any hope of a soft landing. The lag effect means there is a lot more descent that will keep happening after the Fed pulls back on the yoke because of how slowly the craft responds to the Fed’s controls. On the third point: not only is the Fed flying with a faulty GDP gauge as its altimeter, but it also flying with a faulty vertical speed indicator from labor, which tells it when to pull back a nudge and add a touch of throttle to slow its rate of descent and level off.

Based on that faulty gauge, Powell says we are not there yet in the efforts needed by the Fed to bring inflation down on target:

Fed Chair Jerome Powell, at his most recent news conference, recognized that more slack in the US labor market would likely be required to get inflation back down to 2%.

The median expectation of FOMC members was that the Fed wouldn’t slow to a touch-down rate of descent, which they defined as 4.5% unemployment, until 2024. They should be leveling off now if they want to avoid shoving the landing gear through the fuselage.

The Post concludes:

A hard landing might simply have been deferred, not avoided.

The prevalent soft-landing narrative is described well today by NPR:

And it's an especially good morning because we're starting with good news. There's been a string of positive economic reports in the U.S., stronger growth than expected, a pretty resilient jobs market. And inflation has continued to cool - so much good news, in fact, that the U.S. economy may be headed toward what the Federal Reserve's been hoping for - a soft landing. That means inflation has been brought under control without triggering a recession.

My “Deeper Dive” claims we’re already in a cloaked recession, but the Fed and its pocketed press are not seeing it because of that GDP number that even Pilot Powell tapped a couple of times, saying it looked like the needle was stuck.

Then NPR goes on to ask,

So, David, is this it? Is this the soft landing?

[Answer by NPR business correspondent David Gura:] … You know, just about a year ago, inflation was astronomically high. It was above 9%. It's now a third of that. And I think it's worth us remembering how the Fed has tried to bring that down. The Fed has made it so much more expensive to borrow money in a very short period of time. In a matter of months, interest rates have gone from 0 to 5.25%, the highest that they've been in decades….

We've hit a pocket of nice air. The flight has gotten a little bit smoother. I think we're getting to that moment when there's that announcement to put your tray tables up and your seat backs in their upright position.

[NPR host:] OK, but then it can take 30 minutes before they actually land. Like, it's a long (laughter) time - lot can happen in that. So we're maybe in the final approach, and that's got to be a good thing, though, that there's been so little economic turbulence lately, right?

[Gura:] … A lot of economists say we still don't know how these higher interest rates are going to affect the overall economy. We saw some immediate effects. Higher mortgage rates slowed down the housing market….

And Fed Chair Jerome Powell told reporters he still believes there is a path to a soft landing. He thinks he and his colleagues can do what they need to do without triggering a deep downturn - that he can avoid a recession.

While Powell’s plane is just on final approach and the landing far from accomplished, Powell expresses optimism, but we’ve seen this at every failed Fed landing in the past, as economist David Rosenberg recounts for every time he has predicted a major recession and been hated for seeing what most economists could not see and certainly the Fed could not see:

David Rosenberg: My recession call has the haters out in force, but I've been here before

When I was at Merrill, all through 2007 I was asked: “Where is this recession you’ve been calling for, Rosenberg?”

The same salespeople on the equity desk who refused to take me to see clients that year became my best friends in 2008 (they know who they are).

I almost got fired twice for my calls in 2007…. That summer, I had a CIO at a famed Houston-based mutual fund storm out of a meeting I gave and scold me as he exited the boardroom: “You have no clue about the housing market or the economy for that matter,” he said. I had the head of Merrill’s fixed-income sales physically throw my presentation package at me at an internal meeting and tell me in front of about 30 people that I was the worst Fed-watcher he ever saw….

I was called the “skunk at the picnic” and the “class clown” in 2007 and I was called a “Luddite” in 2000 because I didn’t understand how the Internet defeated the business cycle, so all I can say is that this isn’t the first time I have been early on the call, and certainly not the first time to face the wrath of “haters.”

The impatience and tempestuousness out there do not surprise me, either, having called the markets and the economy for nearly 40 years.

This was the title of a Cleveland Fed report in November 1989, just ahead of the 1990 recession: “How Soft a Landing?”

Here was a Market Insight column from December 2000 (the recession began three months later): “Making A Soft Landing Even Softer.”

When it comes to sharing recession narratives no one wants to believe in, everyone can find stats that back up their ephemeral hopes. History doesn’t just repeat itself ahead of deep recessions, it screams its refrains. Yet, the Fed’s sheltered economists, schooled in group think, are always last to see the recession they are creating coming at them. Someone needs to brighten the runway lights for these guys or they won’t even know the runway is under them:

And this was from September 2007, two months before the onset of the Global Financial Crisis, published by the Dallas Fed and picked up by Reuters: “U.S. economy on track for soft landing –Dallas Fed.”

“U.S. inflation pressures are easing and the economy should manage a soft landing, the Federal Reserve Bank of Dallas said on Wednesday,” according to the article. “‘The latest data reinforce the impression of an economy in which growth remains moderate and inflationary pressures are likely to continue to subside,’ it said in a national economic review written by senior Dallas Fed staff economist Tao Wu….”

The smugness and complacency are ubiquitous.

There is certainly no thanks for those who warn of recession. That I can tell you from my own experience over the years.

Rosenberg points to serious divergences in the data from the latest GDP reading, just as I did with other major major data points in my “Deeper Dive,” including that quote from Powell that GDP looked suspicious.

These divergences, folks, are really important, and lamenting why the recession hasn’t started yet (and for reasons we know) is a colossal waste of time.

That was what BlackRock said, too: we should stop asking when the recession is going to happen and already be dealing with it as if it is a fact because it likely is.

Rosenberg continues,

That the stock market has rallied big-time is explained by the fact that the onset of fundamental bear markets are always characterized by a sharp fall from the initial peak, a reflexive rally back towards the highs on soft-landing hopes and signs that the Fed is done tightening or is actually easing policy, and then the long and drawn-out decline to the lows.

That pattern, too, I laid out in the “Deeper Dive,” saying I don’t expect stocks to find their true bottom until sometime in 2026 based on the historic pattern of major crashes during deep recession, and this double-dipper is almost certainly going deeper than any of us want to dive:

…That is almost the same as the range I targeted two years ago for stocks at the absurd blow-off top of the time to hit before this is all over. Here is the graph I presented way back then, placing the likely end somewhere around 2026 as these major crashes historically take years to find their full bottom.

We have to ask, in evaluating this possible deeper market drop, is GDP right and all three other major gauges of economic activity way off, or is GDP the outlier that is, for some reason, in error?

I also wrote in that plunge into the deeper data …

However, estimates for earnings keep getting revised even lower ahead of reporting season so earnings manage to come out beating expectations. That makes it sound to the common person like things are great, but I pointed out last week that the mentally inept stock market ignores the fact that low earnings are low earnings, so the market gets ecstatic about the superficial fact that corporations beat all-out dismal expectations.

Well, the market isn’t making that mistake today, though I imagine it will find its way back to it tomorrow as it always does when someone passes around another dose of dopiness. Says one article:

Stocks Pull Back From July Rally on Weak Earnings

The stock rally that catapulted the S&P 500 to a 16-month high lost momentum after a flurry of companies reported disappointing earnings….

The results highlight growing concern about the durability of corporate earnings and questions about whether stocks can keep gaining.

The market can ignore the fact that earnings in reports were beat only because expectations were revised down abysmally, but eventually the drone of reality pounds through, draining the helium out of hope.

“When we look forward from here, we feel that the drivers for the rally may become a little bit more mixed,” said Karim Chedid, head of EMEA iShares investment strategy at BlackRock International. “We still don’t feel that the trough in earnings has come yet. Whilst the macro picture has been stronger than expected, there is no doubt that the tightening from central bank policy is starting to come through.”

So, some are starting to see through the fog to realize earnings are not good at all. Those that are, are rare exceptions. The rest are just beats due to drastically lowered expectations.

As Rosenberg concludes:

There is nothing here that we haven’t seen before. My mistake this year was not identifying the reflexive rally, but this is still a bear market rally nonetheless. There is nothing I see that tells me we are into a fundamentally-based fresh bull market. Resolve is clearly being tested, and this isn’t the first time nor will it be the last time.

Investing passengers, breathing the happy gas being pumped out of the dangling oxygen masks in the cabin of Powell’s air ship, can ignore the economic realities that diverge from GDP data all they want, but they do so only to their own demise. This is why the Fed causes every recession: They misgauge the proximity of the runway or their rate of descent, so their 747 blows out its landing gear on impact.