Inflation and insolvency causing interest rates to rise

US corporations' hiring plans last year totaled 769,953 workers, the fewest since 2015, according to the labor research firm Challenger, Grey, and Christmas. Private sector data shows that the need to hire new employees for all of last year was the lowest in nearly a decade. The ADP report showed that there were just 122k jobs created in December. We also have the private data from the Institute of Supply Management. The ISM manufacturing survey showed the employment subcomponent was 45.3, which means employment is in contraction and contracting faster. Also, the ISM service sector survey showed that job growth was barely in expansion territory at 51.4.

But then we have the official government information coming from the Labor Department. Initial jobless claims and the monthly Non-farm Payroll report have been remarkable pieces of misdirection and fiction. The benign initial claims figures could result from fewer people being hired, so fewer people are eligible to file unemployment insurance claims. However, what is the excuse behind the constant need to adjust the initial NFP report number lower, which will surely be the case once again for the December figure? There were 256k net new jobs created according to the Department of Labor, and the unemployment rate ticked down to 4.1%. The estimate among private economists was for just 165k new jobs.

But regardless of whether we should believe private sector data or the government’s numbers, the bond market is reacting decisively. The US 30-year bond yield immediately spiked to 5% on the better-than-expected labor news. Based on the official numbers, one would think Jerome Powell is in the process of hiking rates. But since he is more concerned about the interest expense on US debt, a more restrictive monetary policy is out of the question. In fact, Powell still wants to cut rates, albeit more slowly this year than last year.

If the Fed isn’t concernced about the inflation and insolvency issues facing the U.S., then the bond vigilantes must care a whole lot more. Core CPI for December was reported rising at 3.2% y/y. Meanwhile, headline CPI was 2.9% y/y, up from 2.7% in the previous month. Neither the headline nor core rate of inflation is anywhere close to the Fed's 2% target. Inflation has been above that target for 45 months in a row for those who are counting. Indeed, even the ISM survey shows inflation is still a problem. The prices paid component shot up to 64.4, from 58.2 last month.

Inflation remains an issue due to the $2.3 trillion of excess reserves poured out of the RRP facility and into the economy over the past three years. But that process will exhaust itself imminently, which should be the major change in store by the second half of this year.

But for now, inflation has destroyed the purchasing power of the middle class and down; and this explains why consumer confidence fell in December to 73.2. Inflation expectations rose to 3.3%, from 2.8% in the month prior. This is the highest inflation expectation from consumers since 2008.

Inflation is causing rates to rise, and rising interest rates are the predominant problem facing markets in early 2025.

The major issue facing the US is the same as it is across most of the developed world: The highest real estate values and equity valuations in history exist while the level of global debt as a percentage of GDP is at a record. The $36 trillion US debt and the $1 trillion + per annum debt service payments on that debt are pouring a tsunami of issuance into the debt markets. These dangerous conditions exist just as interest rates are rising to levels not seen in decades in Europe. The Japanese 10-year bond yield has been the highest since 2011, and UK borrowing costs have been the highest since 1998. Not to be left out, US benchmark Treasury rates have climbed to levels last witnessed in 2007, just before the GFC.

This is happening as central banks are trying to push rates down. But, as they reduce short-term interest rates, which are the rates they directly control, longer-duration rates are rising rapidly. Meaning, central banks could be losing control of the yield curve. Inflation and insolvency are the primary reasons.

What will surprise Wall Street is that governments are rendered powerless to prevent the rise in yields when inflation and insolvency risks currently abound. After all, what governments have done in the past to "fix" problems in the economy, stock, and bond markets is to borrow and print money to bring down borrowing costs. After all, that is what they do best.

But what happens when governments are already choking on debt and inflation has already destroyed the living standards of many Americans? Those inflation fears are fresh in the minds of the bond vigilantes, causing bond yields to rise. Therefore, any further increase in deficit spending that is monetized by central banks only serves to validate the insolvency and intractable inflation concerns—sending borrowing costs even higher. Thus, making the problem worse.

When bond and stock prices are both in a bubble, the buy-and-hold, 60/40 portfolio becomes a recipe for disaster. Having a robust model that capitalizes on these boom/bust cycles would go a long way to ensuring your retirement nest egg doesn't go down with the ship.