Romney Moves Ahead

Following his convincing win in Florida, Mitt Romney has moved ahead of Newt Gingrich in the national polls. Romney’s strong performance in two televised debates and attacks on Gingrich are presumably the reason. Gallup has a good chart here:

Fed Inflation Targeting

Some commentators have complained that the Fed’s 2% inflation target closes off the possibility of loosening monetary policy by temporarily increasing the rate of inflation. I think that such a policy could work, but that it is not politically feasible. The Fed is a creation of Congress and Fed chairmen have to be aware of the risk to the institution’s independence if Congress is unduly upset. The Republicans would have a fit if the Fed said that it was prepared to tolerate higher inflation, even temporarily. There is also a real risk that the public could misunderstand the policy and inflation expectations could become unanchored. However, it occurred to me yesterday that a 2% inflation target actually gives the Fed cover to allow inflation to rise above target in the short term. The target makes very clear the difference between the deviation of inflation from target and the deviation of unemployment from acceptable levels — the latter being much larger than the former. It thereby provides a means to justify a temporary rise in inflation for the sake of the employment side of the Fed’s dual mandate. At the same time, inflation expectations are more likely to remain anchored if there is an explicit inflation target. This view is consistent with Ben Bernanke’s attitude at his last press conference, where he went out of his way to emphasise that the Fed puts equal weight on the inflation and employment sides of its mandate.

Whether the Fed will actually use the cover provided by the 2% target if the unemployment rate continues to fall at its present pace is another question. I tend to think that Bernanke’s concern about unemployment and emphasis on the duality of the mandate mean that he will use it — i.e. that there will be another round of QE. If I am wrong, then the likelihood is that there will still be QE if the rate of decline in unemployment slackens. In both cases, the 2% target should be of help in providing political cover and keeping inflation expectations well anchored.


China’s headline PMI showed an increase to 50.5 from 50.3p, beating expectations for a reading below 50 (which would indicate contraction). The market seemed to take this as good news, but I am not so sure. The HSBC China PMI rose to 48.8 from 48.7p, indicating a slightly slower pace of contraction. The HSBC PMI takes in a wider range of companies, particularly smaller companies, so may give a better indication of the overall picture. China’s new export orders fell to 46.9 and import orders fell to 46.9 as well, indicating slowing demand for Chinese output and reduced expectations of industrial activity at home. The picture is somewhat clouded by timing of this year’s Spring Festival, which has been unusually early. But, with that caveat, it seems on balance that Chinese manufacturing activity continues to slow.

Turning to the US, yesterday’s PMI release was genuinely strong. The index rose to 54.1, below my forecast on 26th Jan (“above 55”) and below the market’s expectations, but still an improvement. The new orders component increased to 57.6. Employment fell a little to 54.3, but this number is well into expansion territory. Inventories, at 49.5, showed continued contraction, presumably on the back of strong demand. Export orders rose to 55. Combined with an unexpectedly strong number for vehicle sales in January, and the picture so far in 2012 is of continued expansion in the US.


  • ADP non-farm employment change 170k d.e. (by a little). Jan.
  • ISM PMI 54.1 d.e. and rose.
  • Construction spending 1.5% b.e. Dec.
  • Vehicle sales 14.2m b.e. Jan. This suggests a strong number for PCE on durable goods, an important leading indicator, of 2.3%.
  • Australia trade surplus widened, b.e., Dec.
  • UK construction PMI fell to 51.4, d.e.

Next 24 Hours

  • Initial claims
  • Prelim nonfarm productivity
  • Prelim nonfarm unit labour cost
  • Bernanke testifies
  • Services PMI’s