Economic Exceptionalism

Episode Summary

Executive Summary: The episode centered on the latest PCE inflation report, which was broadly better than feared and reinforced the view that inflation is not re-accelerating in 2024. The hosts also debated shelter’s role in measured inflation, why the U.S. economy remains unusually resilient versus peers, and why the yield curve has stayed inverted without an immediate recession. Listener questions covered QE/QT and Fed balance-sheet policy.

Main Topics: April PCE inflation report (Priority: 5/5): The hosts reviewed the latest PCE deflator data, emphasizing that headline and core inflation were benign relative to recent months and broadly aligned with expectations, though not strong enough to justify imminent Fed cuts. Shelter inflation and imputation (Priority: 5/5): They discussed how rent and owners’ equivalent rent drive much of the gap between CPI and PCE, and why the housing component remains central to interpreting inflation but is measured differently across indices. Market-based and harmonized inflation measures (Priority: 4/5): Matt explained market-based PCE and a harmonized PCE measure that excludes homeowners’ imputed housing costs, showing a more moderate inflation picture closer to international standards. Why the U.S. economy is resilient (Priority: 5/5): The group explored why U.S. growth, employment, and consumer spending have outperformed other advanced economies, citing fiscal support, fixed-rate mortgages, immigration, entrepreneurship, and labor-market flexibility. Yield curve inversion without recession (Priority: 4/5): They revisited why the yield curve has been inverted for an unusually long time without triggering a recession, focusing on bank margin management, private credit, and the absence of a pre-inversion credit boom. QE/QT and the Fed balance sheet (Priority: 4/5): Listener questions prompted a primer on quantitative easing and tightening, including how they work, their likely effects on rates, and concerns about market distortion and the zero lower bound. Housing market slowdown (Priority: 4/5): Pending home sales, mortgage-rate lock-in, and weak existing-home turnover were discussed as signs that housing is softening, which should help damp inflation but also weighs on activity.

Key Arguments: The April PCE report was 'good' because monthly core inflation slowed from March and year-over-year readings were stable rather than accelerating. Headline PCE and core PCE remaining around 2.7% to 2.8% suggests inflation is not picking up in 2024, even if it is not yet low enough for a June Fed cut. Shelter is still the biggest reason CPI and PCE differ, because housing has a larger weight in CPI and PCE includes significant third-party imputation. Harmonized PCE, which removes owners’ equivalent rent, shows a much more subdued inflation rate and highlights how housing distortions are masking underlying disinflation. The U.S. economy outperforms peers because households had stronger pandemic fiscal support, more fixed-rate mortgage protection, stronger wealth effects, and more flexible labor/credit markets. Immigration has boosted labor supply and growth without adding proportionate inflation pressure, helping support U.S. output and jobs. The yield curve’s usual recession signal has been weakened because banks have managed margins better and private credit has substituted for traditional bank lending. QE/QT are best understood as extensions of conventional monetary policy at the zero lower bound, though they may distort bond markets and create unintended consequences. The housing market is cooling, and weaker pending sales should eventually slow house prices and reduce inflation pressure. Private credit and low liquidation rates may be propping up firms that might otherwise fail, supporting short-run growth but potentially delaying necessary adjustment.

Data Points: Headline PCE deflator month-over-month: 0.3% - April increase in the personal consumption expenditures price index. Headline PCE deflator year-over-year: 2.8% - Same as March; annual inflation unchanged. Core PCE deflator month-over-month: 0.2% - April core inflation slowed from 0.3% in March. Core PCE deflator exact monthly reading: 0.249% - Described as essentially on the boundary between rounding to 0.2% and 0.3%. Core PCE deflator year-over-year: 2.8% - Annual core PCE unchanged versus March. Headline PCE deflator year-over-year: 2.7% - Mark summarized the annual headline rate separately from core. Market-based core PCE month-over-month: 0.17% - Alternative inflation measure excluding imputed components. Market-based core PCE year-over-year: 2.5% - Viewed as an encouraging and more benign inflation signal. Harmonized PCE month-over-month: 0.2% - Excludes owner’s equivalent rent to align more closely with international standards. Harmonized PCE year-over-year: 1.6% - Broader harmonized inflation reading discussed as well below Fed target conditions. Core harmonized PCE year-over-year: 1.7% - Alternative core measure excluding shelter imputation. Services PCE month-over-month: 0.3% - Slower than March’s 0.4%; used as proxy for sticky wage-related inflation. Services PCE year-over-year: 2.9% - Still elevated but moving in the right direction. Rent of primary residence year-over-year: 5.4% - Shelter component in PCE, tied to Marissa’s statistics game. Owners’ equivalent rent year-over-year: 5.7% - Shelter component in PCE for homeowners. Rent of primary residence month-over-month: 0.35% - Slowest monthly increase since August 2021. Owners’ equivalent rent month-over-month: 0.42% - Slowest since October; still moderating. Pending home sales index: 72.3 - Record low reading for April pending home sales. Pending home sales month-over-month: -7.7% - Sharp decline in April. Pending home sales year-over-year: -7.5% - Annual decline for the indicator. Real consumer spending year-over-year: ~2.5% - Described as solid and in the strike zone despite April softness. GDP Q1 annualized: 1.3% - Referenced from the first-quarter GDP report. GDP year-over-year: 2.9% - Used in discussion of gross domestic output. GDI year-over-year: 1.9% - Gross domestic income growth through Q1. Gross domestic output (average of GDP and GDI): 2.4% - Presented as a better read on underlying activity. Inflation target: 2% - Fed’s preferred target discussed repeatedly. Shelter weight comparison: About one-third in CPI vs roughly half that in PCE - Explained as a major reason CPI runs above PCE.

Pivotal Quotes: "Good." — Matt Colliart: His one-word assessment of the April PCE report when asked for the bottom line. "I think we could be really confident that inflation is not picking up in 2024." — Mark Sandy: Mark’s takeaway after reviewing CPI and PCE data. "That’s the kind of moderation that everybody was hoping to see." — Mark Sandy: His summary of the inflation trend after the April report.

Implications: Inflation is easing but not enough for near-term Fed cuts, while housing and credit dynamics remain crucial for the path ahead. The U.S. still looks unusually strong, but the long yield-curve inversion and housing softness warrant attention.