Previewing A “Massacre”: A Look Ahead To Yellen’s Congressional Testimony

On Thursday, I brought you the latest commentary from SocGen’s incorrigible bear Albert Edwards who warned that the market may be too comfortable with the idea that the Fed will fall in line and use disappointing average hourly earnings growth as an excuse to effectively eliminate March as a “live” meeting.

For those who missed it, here’s an excerpt from Edwards’ characteristically hyperbolic missive:

With the markets somewhat confused (I know I am), I wonder if the ever cooing Yellen dove turns up on the day holding flowers in her beak, or will a machine gun be brandished in the same way it was on that fateful day in 1929. Either way it’s pretty clear to me that the markets’ relief on January’s subdued wage inflation might end up being very short-lived. The hawk may yet swoop down, talons at the ready and devour that cooing, market friendly dove.

Of course Edwards is probably wrong. It’s highly unlikely that Yellen would risk saying anything to disrupt the delicate equilibrium that’s currently allowed stocks to rise to (new) record highs.

As I’ve noted on quite a few occasions of late, there’s a reflexivity problem here. The Fed determines market outcomes, but market outcomes influence the Fed. It’s a bewildering circular dynamic that creates what we might call “policy paralysis.”

And then there’s Trump and the weak dollar meme perpetuated by trade czar Peter Navarro.

For those interested in a preview of next week’s proceedings, below find the latest from Deutsche Bank’s Joseph LaVorgna who isn’t exactly on board with Albert Edwards’ whole “St. Valentine’s Day Massacre” thing.

Via Deutsche Bank

Fed Chair Yellen’s semi-annual monetary policy testimony next Tuesday and Wednesday will emphasize that the economy is close to reaching Congress’ legislated mandates of full employment and price stability. Along with the February 1 FOMC statement, Yellen’s January 19 speech, in which she provided a “progress report” on the labor market and inflation, serves as an excellent blueprint for her testimony. While Yellen will reiterate the “every meeting is live” mantra, we do not expect her to strongly signal a March rate hike. There are too many unknowns at this point with respect to fiscal policy and at the time of the meeting the Fed will not have the Q1 GDP report, which in recent years has disappointed expectations. Yellen will likely address Fed balance sheet strategy in broad terms as it does not appear that the FOMC has formed a consensus around the details.

Why not March? Although Yellen’s economic assessment will reflect rising confidence in the outlook, we do not expect her to jawbone market expectations for a March rate hike. From a practical perspective, the Fed will not have the Q1 real GDP report at the time of the March 14 -15 FOMC meeting. Given the tendency over the last couple of years for Q1 GDP to be seasonally weak, we do not expect the Fed to hike ahead of a potential soft patch. In addition, it is highly unlikely that monetary policymakers will have enough details about the fiscal outlook to make any substantive changes to their economic projections. As Yellen indicated in her post-meeting press conference last December, about a half of the meeting participants had incorporated some degree of fiscal stimulus into their forecasts. In turn, we continue to see the most likely timing of the next rate hike as the June 13-14 meeting.

What about the balance sheet? Since a number of Fed officials have been publicly discussing the Fed’s balance sheet strategy, Yellen is likely to be queried by Congress on the subject. At this point, there does not appear to be any clear consensus among policymakers on the timing and contours of tapering reinvestments of Treasuries and MBS. Thus, we expect Yellen’s comments to focus on longer-term goals for the level of the Fed’s balance sheet.