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The Federal Reserve\u2019s rate hikes have helped slow overall prices, but they are also keeping inflation sticky because of the way homeownership costs factor into key metrics, according to housing expert Jim Parrott and Mark Zandi, chief economist at Moody\u2019s Analytics. <\/p>\n
In a Washington Post<\/em> op-ed<\/a> on Thursday, they urged the Fed to \u201cdeclare victory\u201d over inflation and start cutting rates. Central bank policymakers are meeting this coming week<\/a>, and markets expect them to keep rates steady at 23-year highs.<\/p>\n While consumer inflation has dropped sharply from the peak two years ago, it has remained stuck above the Fed\u2019s 2% target, prompting Chairman Jerome Powell to keep rates higher for longer. <\/p>\n But that stance is based on a \u201cserious misjudgment,\u201d according to Parrott, who is the co-owner of housing advisory firm Parrott Ryan Advisors and a former White House economic advisor during the Obama administration, and Zandi.<\/p>\n It stems from how the\u00a0personal consumption expenditures deflator, the Fed\u2019s preferred inflation gauge, and the consumer price index try to measure the cost of homeownership by estimating the rent for a similar home nearby.\u00a0<\/p>\n The approach is flawed, they wrote, because most homeowners don\u2019t have a mortgage or have a fixed-rate mortgage, meaning their actual costs haven\u2019t changed much. But since the inflation metrics are estimating a notional rent based on rising real-world prices that renters are paying, homeowners\u2019 implicit costs are up.<\/p>\n In addition, Parrott and Zandi said it\u2019s \u201cvirtually impossible\u201d to estimate implicit rent in communities where most homes are owner-occupied or in situations where most rental inventory serves multifamily residents while the owner-occupied inventory serves single-family residents.<\/p>\n If the Fed ditched that quirk in the methodology, then inflation would be at the 2% goal, they said. <\/p>\n Meanwhile, the Fed\u2019s aggressive hiking has worsened the tight supply in the housing market by making it harder to build new homes and by discouraging homeowners from giving up their low mortgage rates, they added.<\/p>\n \u201cThis breakdown in the housing supply pipeline is lifting the cost of buying and renting, driving up the very measure of inflation on which the Fed is relying,\u201d Parrott and Zandi wrote. \u201cThe tool the Fed is using to drive inflation down is doing precisely the opposite.\u201d<\/p>\n Recent data show that after cooling earlier this year, rent prices have ticked back up<\/a>. To comfortably afford rent, you need to make almost $80,000 a year, up from less than $60,000 five years ago, according to<\/a>\u00a0Zillow<\/a>.\u00a0<\/p>\n And while there are some signs of weakness in home prices<\/a> in certain markets, nationwide numbers still show prices are rising.<\/p>\n Parrott and Zandi aren\u2019t the only commentators seeing the Fed stuck in a box. Apollo chief economist Torsten Sl\u00f8k said last month that central bankers are in a self-defeating loop<\/a>.<\/p>\n \u201cYou can call this the Fed Cut Reflexivity Paradox: The more the Fed insists that the next move in interest rates is a cut, the more financial conditions will ease, making it more difficult for the Fed to cut,\u201d he wrote.<\/p>\n<\/div>\nSubscribe to the CFO Daily newsletter to keep up with the trends, issues, and executives shaping corporate finance. Sign up<\/a> for free.<\/div>\n