The Fed minutes were already set to be pretty interesting reading as far as Fed minutes go, given the ongoing turmoil in emerging markets and the fact that Jerome Powell has been steadfast in his upbeat assessment of the outlook for the U.S. economy, an assessment that informs his persistent hawkishness.
That persistent hawkishness is driving the policy divergence between the U.S. and its trade partners ever wider, to the benefit of the dollar. The stronger the dollar, the easier it is for those trade partners to weather the tariff storm. That’s a problem for Donald Trump which is why he lashed out at Jerome Powell last weekend in the Hamptons and then again on Monday in a Reuters interview.
Trump’s comments helped push the dollar lower – the greenback is now on a five-day losing streak, which is good news for international risk sentiment and just what the doctor ordered for all manner of carry trades that are more “beleaguered” than Jeff Sessions after a Trump Twitter rant thanks to Fed tightening and the prospect of a worsening global dollar liquidity squeeze.
(Bloomberg dollar index)
Positioning in the greenback is stretched as are spec shorts in the Treasury complex as markets continue to believe that Trump’s rhetoric will not be sufficient to deter the Fed. We’ll see if that positioning gets unwound at all this Friday when the latest CFTC data hits.
“The Fed has shown little concern about global developments and, in its August meeting, remained committed to gradual rate hikes, seeing monetary conditions as still accommodative”, Barclays wrote on Sunday, adding that despite the Fed’s seemingly steadfast commitment, “the market remains reluctant to price restrictive monetary policy settings, especially after 2018, with just 80bp of hikes implied to the end of next year, vs. our expectation of 150bp and the median FOMC participant forecast of 120bp.”
Here’s Goldman’s brief preview:
At its August meeting, the key changes in the post-meeting statement were the upgrade in the characterization of economic activity from “solid” to “strong,” as well as an upgrade to the consumption characterization from “picked up” to “grown strongly.” The Committee also tweaked the description of headline and core inflation to “remain near 2 percent.” In the minutes, we will look for further discussion of trade policy, which was left unmentioned in the last statement.
Given that the minutes won’t reflect the most recent bout of EM risk-off behavior, it will be left to Powell to say something soothing in Jackson Hole on Friday. Again, I’m not sure he’ll be so inclined – especially not with the U.S. economy still hitting on all cylinders and inflation on the rise.
That sets him up for a clash with Trump.
The Fed is also staring down a flattening yield curve and the questions that raises about the possibility of a recession.
Re-upping this awesome @boes_ chart:
Many portions of the eurodollar curve are flatter than they've been at previous incidences of Treasury curve inversion.
But the front-end isn't. pic.twitter.com/9T7QXbKRTY
— Luke Kawa (@LJKawa) August 22, 2018
Additionally, it’s time for them to start thinking about operational issues including, of course, the balance sheet. For an in-depth take on that and IOER, see “Why The Fed Will Be Forced To Halt QT Early And Expand The Balance Sheet In 2020, According To Morgan Stanley“.
And with that, here are the bullet point highlights from the minutes (note the bolded bits on the curve, the balance sheet and emerging markets):
- “Many participants suggested that if incoming data continued to support their current economic outlook, it would likely soon be appropriate to take another step in removing policy accommodation.”
- “Reports from several Districts suggested that firms had greater scope than in the recent past to raise prices in response to strong demand or increases in input costs, including those associated with tariff increases and recent rises in fuel and freight expenses.”
- “Participants noted that the federal funds rate was moving closer to the range of estimates of its neutral level.”
- “Participants generally expected that further gradual increases in the target range for the federal funds rate would be consistent with a sustained expansion of economic activity, strong labor market conditions, and inflation near the Committee’s symmetric 2 percent objective over the medium term.”
- Incoming data suggested that foreign economic activity expanded at a moderate pace in the second quarter. Monthly indicators pointed to a pickup in the pace of economic activity in most advanced foreign economies (AFEs) following a temporary dip in the first quarter. However, real GDP growth remained moderate in the euro area and appeared to have slowed notably in many emerging market economies (EMEs), especially Mexico, from an unusually strong start to the year. Foreign inflation fell in the second quarter, largely reflecting lower retail energy and food price inflation. Underlying inflation pressures in most foreign economies, especially in some AFEs, remained subdued
- “A couple of participants commented on issues related to the operating framework for the implementation of monetary policy, including, among other things, the implications of changes in financial market regulations for the demand for reserves and for the size and composition of the Federal Reserve’s balance sheet.”
- “Participants also discussed the possible implications of a flattening in the term structure of market interest rates.”
- “Several participants cited statistical evidence for the United States that inversions of the yield curve have often preceded recessions.”
- “They suggested that policymakers should pay close attention to the slope of the yield curve in assessing the economic and policy outlook.”