A Taper Tantrum Could Follow This Inflation Spike

The Federal Reserve tried so hard to avoid a repeat of the 2013 “taper tantrum” — and was so successful in doing so — that it might just end up backfiring in a big way.

Just a week after the central bank announced that it would begin scaling back its $120 billion of monthly bond purchases at a pace that would last eight months, Labor Department data showed the U.S. consumer price index soared by 6.2% in October from a year earlier, the fastest annual pace since 1990. It advanced 0.9% just from September, the steepest increase in four months. Meanwhile, the core measure that excludes volatile food and energy prices jumped to 4.6%. Fed Chair Jerome Powell acknowledged at his press conference last week that “the level of inflation we have right now is not at all consistent with price stability.” So, what would he say about this latest reading?

In truth, there’s not much he or other Fed officials can really say, except to stick to their line that they expect this level of inflation will ultimately prove to be transitory and fade around the middle of next year. Indeed, San Francisco Fed President Mary Daly said after the CPI report that it’s “premature” to change the calculation about raising interest rates. It’s hardly a coincidence that the central bank’s projected timeline of fading inflation pressure aligns perfectly with its current course of winding down asset purchases.

The problem, as my fellow Bloomberg Opinion columnist Conor Sen noted on Twitter, is that the Fed and the Biden administration have gotten their inflation calls entirely wrong this year. Price growth has lasted longer than expected. And, crucially, they’re no longer able to point to obvious reopening quirks as the reason for elevated inflation. “The really scary thing is that I’m looking for a big outlier,” Michael Ashton, also known as “Inflation Guy,” said on Twitter. “And I can’t really find one.” Bloomberg Economics doesn’t see headline CPI peaking until possibly January.

Typically this kind of widespread inflation concern, when the labor market is tight by many measures, would call for a policy response. But what’s the Fed to do? Powell has made it clear that the central bank won’t raise interest rates while it’s still buying bonds. Traders shouldn’t even link tapering and rate increases, he has said, because the latter requires a more stringent test.

The only policy lever that the Fed can pull right now is to accelerate the reduction of its asset purchases. But there’s good reason to believe that such a move would unnerve people, potentially causing — wait for it — a taper tantrum.