Last week, the Government Reserve delivered a 75-basis point rate hike , but Fed Chair Jerome Powell failed to deliver the greater doveish rhetoric that many expected.
The messaging did not reveal much softening in the stance on the future trajectory associated with rate hikes, despite a good apparent “ gentle pivot ” the particular week before.
In his podcast, Peter stopped working Powell’s messaging and pointed out a number of very scary admissions that came out of the Fed meeting.
Peter said the Fed did do a soft pivot unfortunately he able to back off when the relationship market stabilized.
“ I believe the Fed was forced in to making that pivot since it stood on the precipice of the bond market crash, which was in the process of happening. And I think the only way the Fed was able to stop that slow-motion accident from playing out accelerating was by throwing a bone to the markets and indicating through the Wall Street Journal that there was going to be some type of statement that was going to go along with the speed hike that would indicate that maybe there was going to be considered a pause in the pace, a slowdown in the pace, which the Fed was going to take a take a step back and reflect and assess, and maybe acknowledge the improvement that had been made without suggesting complete victory, but at least acknowledging that victory was at least in sight and that the particular Fed could take a more cautious approach going forward. … Something to that effect has been expected. ”
However , the Fed didn’t provide anything close to that.
Initially, the markets believed the Fed was heading more doveish. The declaration released by the FOMC left some wiggle room for a slowdown in hiking or perhaps a pause with language about monetary policy “ lags” and “ cumulative” effects.
“ In determining the speed of future increases within the target range, the Panel will take into account the total tightening of monetary policy, the lags with which monetary policy affects economic exercise and inflation, and financial and financial developments. ”
Simply by acknowledging the lag among rate hikes and pumpiing, the Fed gave itself the leeway to temporarily stop.
Initially, the particular stock market rallied. But during his prepared marks, Given Chairman Jerome Powell spooked the markets, saying that price stability is essential and the historical record strongly cautions against prematurely loosening policy. Powell emphasized that the central bank was committed to “ staying the course” until the job is performed.
As he shifted through the Q& A, Powell dropped a number of what Philip called “ unexpected bombshells” that the markets were not expecting.
First, this individual reiterated the Fed’s dedication to positive real interest rates. Right now, the Fed rate of interest sits at 4%, but CPI continues to be over 8% . Powell implied that we will get in order to positive real rates as CPI falls. But what if CPI doesn’t fall? That will mean interest rates have to go much higher than the markets anticipate.
“ I think the fact that Powell needed to acknowledge that ultimately we have to have a positive real rate of interest — that is very frightening for the markets. ”
Powell also admitted they don’t know what the exact underlying inflation rate is definitely.
“ Now, that is a very frightening admission by the Fed. Because if the Fed is devoted to fighting inflation, but it is not going to even know how big the monster that it has to kill is, then how does this know how many rate hikes are going to be necessary? How does he or she know how high rates have to be in order for there to be a beneficial real rate of interest if this individual doesn’t even understand what the actual rate of inflation is certainly? And if he doesn’t understand it now, why will he understand it at some time in the future? The Fed does not have any clue. All it’s looking at is the same headline amount as everybody else. And depending on that, the Fed is still way behind the inflation curve and has a long way to visit. And that, again, should frighten anybody who is counting on the Fed to ease up on the current trajectory of tightening up. ”
When asked if pumpiing has become entrenched, Powell did not say no . In fact , Powell said the Fed has no way of knowing when pumpiing becomes entrenched.
“ That’s an additional scary admission by the Fed. Because if it doesn’t know, it can just kind of flying sightless, and it has to err on the side of caution to make sure pumpiing doesn’t become entrenched. ”
Of course , as Peter pointed out, inflation is entrenched. It’s not a matter of psychology. It is a matter of financial policy.
“ The Fed has established so much inflation for so long — it didn’t even start with COVID. It didn’t even really start with QE. The Fed was producing inflation even before it upped the ante to quantitative easing and then upped it again in the aftermath of COVID. ”
Powell also accepted that inflation was a lot higher and has lasted considerably longer than anybody at the Given had expected.
‘ This is tantamount to saying, ‘ We got this wrong. We all made a mistake. And now we have to correct that mistake by staying tighter for longer or going higher than markets expect. ‘”
Powell said the real danger was in doing too little tightening, not doing too much. He said he would prefer to overtighten. Powell said if the central bank tightens too much, they have the tools to support economic activity if necessary. In other words, it can at all times go back to monetary stimulus.
“ Again, those are very scary comments, especially if you were expecting the particular Fed to adopt a smoother tone. ”
But it also reveals the fatal flaw in the Fed’s thinking.
“ Powell is incorrect to think that if they just tighten too much, meaning these people tighten so much that the economy really weakens into a serious recession, that the Fed has got the tools to prop it back up and stimulate this to support economic activity. Keep in mind that. Because if the fight against pumpiing drives the economy into recession, if the Fed after that uses those very tools to support the economy, well then, inflation is going to take off and obtain much worse. You see, if the Fed is really committed to combating inflation, then those tools are no longer at its removal. The fact that Powell is so fast to admit that he will use those tools when the inflation fight does an excessive amount of damage to the economy really reveals that the Fed is not as committed to fighting pumpiing as it maintains, or since the markets believe. Because, since I’ve said many times, the Fed’s commitment to fighting inflation stops if it leads to a severe recession or perhaps a financial crisis. ”
The Fed will be willing to tolerate a “ hard landing” and a mild, short recession. But if it gets worse than that will, it will use its equipment. Peter said he considers it will use those equipment long before inflation gets near 2%.
“ But even in the extremely unlikely situation where the Fed got inflation back down to 2% because of its tightening after which, with inflation at 2%, the Fed then used those tools to promote the economy, anything this had achieved in decreasing inflation will be lost and the inflation rate will spike back up again. So , even though inflation does go to 2%, the Fed still still cannot use those tools. ”
Peter said when the economy really starts to fall apart, the Given will make a hard pivot. He also said despite Powell’s rhetoric, he believes the Fed did recently do a soft pivot to recovery the bond market.
“ It’s just that Powell didn’t follow through in the Q& A. I think that pivot was, in fact , written into the prepared remarks, but Powell went off script and went back to his newfound hawkishness. ”
The rally in the bond market after the soft pivot produced that possible.
“ But now that Powell has returned in order to his hawkish rhetoric, the marketplace crash that the Fed disrupted is going to resume. And I think when faced with those circumstances once again, especially if it’s the bond market and not just the stock market, I believe Powell is going to have to come back and clarify his remarks. And by clarify, I mean perform a complete 180. ”