Price stability is another problem. The headline consumer price inflation (CPI) shot up to 2.7 percent last month from only 0.8 percent in July 2016; its core component (CPI minus food and energy costs) has been firmly in the 2.0-2.3 percent range for more than a year, and the key service sector prices have also been rising between 3 and 4 percent for a long time.



But the real inflation story is told by the structural nature of unit labor costs – labor compensation minus labor productivity – because they put the floor below any medium-term inflation outlook. Last year's steadily increasing labor demand drove compensations to an annual growth rate of 2.9 percent. That brought unit labor costs up to 2.7 percent as the result of a pitiful 0.2 percent labor productivity growth.



Two things are readily apparent here. One, we have to increase the supply and skills (i.e., productivity) of employable labor in order to keep down the costs per unit of output. Two, there is nothing the Fed can do here; this is the domain of labor, education, healthcare and trade policies.



Investment thoughts



I believe that the Fed's strange and unsustainable operations should be seen as a laudable effort to help the new administration come up with appropriate fiscal, structural and trade policies in an environment of orderly financial markets, confident households and optimistic business community.



But the Fed must make clear to legislative and executive authorities that – at this point in the business cycle – it is absolutely essential to focus on price stability. The White House and the Congress must deliver – fast – on their part of the bargain, because any major inflation slippages would totally compromise the growth outlook.



The extraordinary activism of the Trump administration's economic policy is a good thing. But it has to keep delivering to put steady foundations below the market rally.



One of these things was done last week. Washington deftly used the visit of the German delegation to clarify its trade policy – free but fair – where the fair part has to be defined as a refusal to accept excessive and systematic trade surpluses resulting from inappropriate (aka, beggar-thy-neighbor) economic policies. That is what John Maynard Keynes wrote in the IMF's Articles of Agreement at Bretton Woods in July 1944. Washington may wish to "codify" that as a binding rule in the G20 platform of international economic policy coordination during the summit in Hamburg next July.



Meanwhile, we need policy coordination at home. The U.S. economy, financial markets and the dollar need a close coordination of monetary, fiscal, structural and trade policies.



That would allow the Fed to review its "forward market guidance" in order to protect its credibility. If that were done, funny things like boosting the supply of money while raising its price would no longer be necessary.

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