As a resident of Colorado, my hikes sometimes take me up on mountain ridgelines. A ridgeline is a single path with a sharp drop on either side. When walking on a ridgeline, the goal is straightforward - stay in the middle of the trail, since disaster awaits on both flanks.

A ridgeline is also my favorite way to describe central bank management of inflation. To the left you have deflation, and deflation begets deflation. Why buy something today when it will be cheaper tomorrow? And with that small leap of logic, spending and the economy grinds to a halt. You roll down the hill and it is hard to stop. Similarly, inflation begets inflation. It's easy for 3% to quietly become 4% and then 5% as small decisions and behaviors compound. At 2% you laminate your restaurant menus, at 4% your menu is a QR code that links to a webpage you can edit. Workers who feel the squeeze of their grocery bill demand higher wages, which businesses pass along to customers to the maximum degree they can get away with. Each incremental step higher makes the next incremental step higher just a little bit easier and more likely as inflation expectations get baked in. In that context, a 2% inflation target makes good sense for a credible central bank. Walk in the middle of the path - far enough from deflation without spilling into a world where inflation fears become self-fulfilling.

One thing I like about this metaphor is that it shines light on the weirdness of the "average inflation targeting" policy that the Fed has been touting since 2020 and that has become a pillar of the rationale for cutting interest rates today. If you were out for a ridgeline hike with a friend and he said "I walked too close to one edge for a while, now I'm going to walk too close to the other edge to average it out" you'd think he was having some kind of psychiatric break. When Powell says it, pundits nod solemnly and pretend it makes sense.

Core PCE - the Fed's preferred inflation gauge - was 2.6% in April, 2.8% a month later, and 2.9% now. The 1yr forward consumer expectation, according to the Fed's survey, is 3.4%. In other words, consumers expect things to keep slowly getting worse. Does that mean they are changing their behaviors accordingly? Will it get worse? I lean that way, but I don't know, neither do you, and neither does Powell. But I do know that if it does, the 60/40 portfolio is unlikely to preserve your purchasing power and you'll be grateful for any and all inflation protection you own.