Employment Pivot

Published on April 8, 2024 by Premium

The Fed is shifting its reaction function on employment such that strong job growth numbers will no longer elicit a hawkish monetary response. Chair Powell had previously sought to lower inflation by dampening wage growth, which was to be done by raising unemployment. In that framework, strong job gains would suggest the need for tighter policy. But Powell now indicates that the tremendous surge in migration will increase labor supply and moderate wage growth without

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Higher (Real Rates) For Longer

Published on February 20, 2024 by Premium

The recent bout of higher inflation prints and resurgent labor market strength changes the timing and number of rate cuts, but does not change the direction of monetary policy. Fed officials note the risks between their employment and inflation mandates are more balanced, so they are increasingly mindful of potential overtightening. Fed officials have widely articulated a framework that views policy through the lens of real interest rates and a neutral rate that is little

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Token Resistance

Published on January 22, 2024 by Premium

Fed officials are unlikely to meaningfully push back against the market's aggressive pricing of rate cuts regardless of the rise of risk assets. Real rates remain at cycle highs from declining inflation expectations even as recent inflation data is very close to 2%. Fed officials perceive financial conditions to be restrictive even with six rate cuts priced in the market, and are also concerned with potentially overtightening. The high degree of uncertainty and the Fed's

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Doves Ascendent

Published on January 8, 2024 by Premium

Monetary policy going forward will be increasingly biased towards rate cuts as both inflation has declined and employment growth appears to be slowing. Policymakers set policy with an eye towards a trade-off between employment and inflation, with the balancing of risks dependent upon the policymaker's values. The record of the current Fed leadership and political donations of Fed staff indicate a left leaning preference, suggesting an emphasis on employment over inflation. While the Fed is

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Half Anchored

Published on October 16, 2023 by Premium

Median longer term inflation expectations have been returning towards 2%, but the median hides significant dispersion that has widened and persisted. A range of surveys finds that a notable fraction of survey respondents since 2021 have revised their expectations away from 2%. At least a third of households now appear to have durably revised their inflation expectations to above 4% in the coming years. Surveys of business inflation expectations also show an upward shift but

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Fool Me Once

Published on October 9, 2023 by Premium

The market may finally be overestimating the expected path of policy after two years of persistently underestimating the Fed's willingness to hike. Recent data suggests that economic growth and employment continue to steadily increase even as inflation is clearly trending lower. This suggests a softening labor market is not necessary to lower inflation and raises the bar for additional tightening. At the same time, financial conditions are notably tightening with the steady rise in longer

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Steepening Stance

Published on August 21, 2023 by Premium

The Fed is guiding towards rate cuts next year while also continuing QT, which together imply a steepening influence on the curve. Fed officials have begun signaling modest rate cuts to prevent real interest rates from rising even as the rate of inflation trends downward. At the same time, a number of Fed officials are considering breaking from tradition and maintaining QT even amidst rate cuts. This is happening even as supply and demand dynamics

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Solvency Constraints

Published on October 10, 2022 by Free

The dollar rally may be set to continue as limits on quantitative tightening bind other central banks before it binds the Fed. The tail risks of QT have first appeared in the gilt market, where significant price volatility prompted official intervention. What appears to be a liquidity issue will ultimately become a financial stability issue as investors discover their “safe assets” are not safe. These concerns may prompt a policy response similar to that seen

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Fed Balance Sheet FAQs

Published on August 22, 2022 by Free

This post answers four frequently asked questions on the Fed’s balance sheet. The answers to the first two questions will affirm that the Fed is executing QT exactly as promised, even if it may not appear that way. The apparent discrepancy is due to TIPS appreciation and details in MBS settlement mechanics. The answers to the second two questions will show how the Fed balance sheet behaves when the Fed has and negative net interest

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The Money Still Flows

Published on July 25, 2022 by Free

The market appears to misunderstand the Fed’s reaction function and is pricing a path of policy that is not consistent with a return to 2% inflation. Inflation moderates through demand destruction when households can no longer afford the price increases. But the sources of household purchasing power – credit, wages, and wealth – all appear to easily support elevated inflation. These metrics may not indicate that a 9% inflation rate is sustainable, but they are

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