Supply chain issues will work itself out and eventually calm inflation fears: economist

Joe Song, BofA Securities Senior U.S. Economist, joins Yahoo Finance Live to discuss the outlook for inflation and the road to economic recovery amid the pandemic.

Video Transcript

MYLES UDLAND: Let's stay on these inflation conversations, Is it transitory, is it not, how to think about the Fed's announcement from last week. Let's bring in Joe Song he's a Senior US Economist over at Bank of America.

Joe, always great to talk to you, so let's start with how you guys are interpreting what we saw from the Fed last week. And I'll ask it this way, do you believe the Fed was passing judgment on whether inflation is indeed transitory or not? Because market participants want this to say, the Fed is admitting it's not transitory. How did you guys kind of see the data we got from them last week?

JOE SONG: Yeah, thanks for having me, Myles. So I think the Fed is still suggesting that the data that they have on hand is transitory. Obviously, the risks have risen that there could be a little more persistence in the rise in prices. But we have to remember why all these price increases are happening.

As you mentioned, at the top, you are seeing immense demand in the economy. And we're going from an economy that was on the cooler. We had shut it down completely. And we're starting to come back. Reopening is basically going from 0 to 100 in a very quick time. And that's leading to shortages and bottlenecks within the economy, especially in the labor market right now.

So all those supply side issues will work itself out. And that would mean that prices should ultimately kind of slow down and start to stabilize, which means inflation will also stabilize and maybe even show some deflationary pressure early next year. And that will mean that inflation will ultimately prove transitory.

MYLES UDLAND: Joe, I like that new B of A transitory meter, very eye friendly. What are some of the inputs in that?

JOE SONG: Yeah, I mean, it takes a whole slew of inflationary measures that we track, you know, obviously those prime CPI PC numbers, but also a lot of the regional Fed's measures as well, where they look at transitory factors, you know, as they suss it out, the trimmed mean measures, things of that nature.

And we're just trying to aggregate it all up and kind of give you a framework into looking at what we are seeing right now. And what we're seeing right now is that all of these measures are suggesting that a lot of inflation that we're seeing will ultimately prove to be transitory.

JULIE HYMAN: Hey, Joe, where does labor inflation fit into this equation? And what are the latest data points. I mean, you guys at Bank of America are also well known for pulling in sort of interesting alternative data points. I'm wondering what you're seeing on the jobs front from the other nonconventional, unconventional tea leaves that you're reading.

JOE SONG: Yeah, we are starting to see wage inflation build up across the different sectors. One interesting kind of alternative data we've looked at is from Revelio labs. You know, they have job posting data, and they actually post the entry level salaries that go with the job posting. We've seen a pickup. The median wages have picked up in recent months, which suggests that labor demand is hot right now.

And then you obviously see the traditional measures as well. Average hourly earnings, employment cost index, they've all shown decent strength over the last months and last quarter. And that suggests there is a supply demand imbalance right now to the labor market. And that just means that for the markets to clear, wages have to rise. And that's what we're seeing today.

BRIAN SOZZI: Joe, I caught up with my dad on Father's Day. And he told me his car, his '04 Corvette, has been in the shop literally since February, because he can't get parts. And folks are telling him they just can't get the parts delivered to them. They don't have the workers. How long do you think supply constraints like that will continue? Help my dad out here.

JOE SONG: You know, it's hard to say for your dad, exactly, but I think broadly speaking, we think that by the fall, a lot of these supply constraints will work itself out. Remember, there's a decent amount of headwind for the labor market now. You have a lot of workers still on the sidelines, still concerned about COVID, maybe haven't been vaccinated yet.

You also have childcare issues for a lot of families as well. And then there's also some disincentives from generous unemployment insurance benefits. Now we'll get a natural experiment over the next few weeks as some states have decided to discontinue those benefits. So we'll see if there is a meaningful labor supply response.

But by the fall, we know that the entire federal program will go away, and we think that that will ultimately push some of the workers back into the labor market. And that should help ease some of these constraints that we are seeing today.

MYLES UDLAND: Joe, I think it's helpful that we've been discussing the pressures that are happening today and how they may resolve in the next six months. But what the market was really focused on last Wednesday is how the Fed saw 24 months from now, second half of 2023, potentially a couple of rate hikes. You guys are expecting there to be two rate hikes in the second half of '23.

What kind of conditions do you think the Fed will be reacting to at that time? Will it be full employment? Will it be inflation that remains high? What will the potentially Powell Fed, but maybe someone else leading the Fed then, what will they be reacting to when they decide to go ahead and initiate another rate hike cycle?

JOE SONG: Yeah, I mean, I think it will be a combination of those two, maximum employment and sustained inflationary pressure. Remember, they went to this more easy policy regime of flexible average inflation targeting. And they want to sustain inflationary pressure above 2%. Now we're going to get a lot more than that this year because of these transitory factors.

But as the new economic forecast showed from the Fed, they're looking for 2.1% next year and the year before. That would argue that flexible average inflation target is working And you're seeing above trend inflation.

On top of that, they're obviously looking for meaningful progress in the labor market as well. Unemployment is still at elevated levels. We're nowhere near back to pre-pandemic levels and the level of employment. They'll want to see those levels also get back to pre-pandemic conditions before they start to consider liftoff.

MYLES UDLAND: All right, Joe Song with Bank of America, Senior US Economist over there. Joe, appreciate you stopping by on this Monday morning. I know we'll be in touch.