Powell, and Many Others, Echo a Patient Theme
- The baseline for now is a gradual and inertial Fed, which sees itself with little near-term urgency to do all that much of anything. For now, they “wait for greater clarity.”
- The Fed, across most speakers, seems sanguine in its spot assessments of the economy but willing to quickly pivot if those get dislodged. The baseline policy path still seems to be some gradual easing but with limited further depth or urgency. Being closer to neutral is part of this but so is the increasing tension between the two mandates’ risk skews.
- Unsurprisingly, there’s an emergent discrepancy between market’s pricing of the left tail and the Fed baseline.
- Powell seemed to suggest that he sees tariffs’ inflationary risks as unlikely to bind in the short-term and the Fed will remain willing to respond to any appreciable further weakening in the labor market.
- While markets may have seized on this sentiment in the afternoon’s bounce, it seems to me to be something to be careful what you wish for as I doubt that labor weakness induced cuts will be greeted all that enthusiastically at the time (maybe except for some housing related exposures but that assumes only so much softness; see the recent outperformance of our housing and durables l/s swap, MS22DCS Index, on Bloomberg).
Tariffs are also only one part of a broader economic project from the new administration, with Powell noting that “trade, immigration, fiscal policy, and regulation” policy are all seeing substantial changes and that “it is the net effect of these policy changes that will matter for the economy and for the path of monetary policy.”
The baseline reaction function from Powell, and presumably most of the Committee now, is a desire to look through potentially transitory inflationary impacts from tariffs, coupled with a worry that those increases may not really be transitory. To feel confident in looking through those price level shocks, “you would want to be sure of a couple things. One just is that if it turns into a series of things… And what really would matter is what’s happening with longer-term inflation and how persistent are the inflationary affects you to look at… and you’d want to remember the current context.” Clearly the lesson of the intensity and broadening out the inflation shocks of the covid-era loom large, despite not being the baseline analytical approach.
Powell seemed to imply that even with though we had deregulatory policies and the recent TCJA in the first Trump administration, he views the subsequent 75bps of cuts in 2019 as driven by the trade war (which was likely much smaller than the current one). He noted that for the moment, while tariffs are top of mind there is little clarity about ultimate timing, scope, or rates making anticipating their impacts very challenging.
The elevated degree of uncertainty, which skews to the upside on inflation and downside on activity, means that “the costs of being cautious are very, very low.” At the moment at least the baseline is that “the economy is fine. It doesn’t need us to do anything really.” Powell did note that there are cases where uncertainty can lead to a cause for preemptive action (September’s 50bps cut after the triggering of the Sahm Rule jumps to mind although he cited elevated inflation expectations and the pandemic).
Powell noted that the framework review is likely to be done by “the end of summer,” hinting fairly obviously at the likely theme, or at least his own focus, of the Jackson Hole economic symposium this summer.
Recently we’ve heard from a number of other Fed speakers, getting final views out to the public before the blackout period begins tomorrow. The hawkish Governor Bowman, highest on the list to be appointed as Vice Chair for Regulation and Supervision, in a more symmetric risk posture relative to her usual hawkishness said that “as we continue to make progress on approaching our 2 percent target, I expect that the labor market and economic activity will become a larger factor in the FOMC’s policy discussions.”
Governor Kugler’s comments were a bit of a surprise in the opposite direction. The more hawkish comment that “given the recent increase in inflation expectations and the key inflation categories that have not shown progress toward our 2 percent target, it could be appropriate to continue holding the policy rate at its current level for some time,” was balanced by “I am closely monitoring any signs of changes in the labor market so that we can keep it in the good place that it is now while bringing down inflation to our target.” The Philly Fed’s Harker seemed a bit more atuned to the tails than many, noting that while “business and consumer confidence is starting to wane, that’s not a good sign” that is hawkishly balanced by a fear that the decline in inflation towards target “is at risk.” Hence patience and inertia in the short-term.
There is clearly a debate on the level of neutral (ongoing for years now), but the overall balance of views seems to be gradually drifting higher, as the long-run dot has been. FRBNY Pres. John Williams noted that he continues to think that neutral rates are lower than in the 1990s. That’s a fair enough contention but also seems to be a notable departure from his stronger language in recent years which seemed more consistent with a neutral rate which was unchanged from before. This could be my over-interpreting Bloomberg headlines, but it seems like a bit of an inevitable shift, consistent with a slow evolution higher of the FOMC’s long-run dot. Bowman noted again that her own estimate of neutral is much higher than it was before the pandemic.
