“Almost all” Fed officials backed a step-down to 25bps rate hike increments at this month’s policy gathering, an account of the meeting released on Wednesday showed, even as “a few” made the case for a larger move and “a number” expressed concern that an “insufficiently restrictive” stance might “halt recent progress” on inflation.
I often describe key data and other top-tier releases as “hotly-anticipated.” In some cases, that description is a stretch, but not here. The US rates complex repriced dramatically in recent weeks around a spate of robust economic reports which together raised questions about the Fed’s reaction function in the face of a surprisingly resilient economy. The pace of the selloff in rates was torrid, but the market shift was arguably overdue — it helped align traders’ policy expectations with the Committee’s pretensions to a terminal rate above 5%.
At the same time, a simmering debate about the long run neutral rate began to bubble, even if it isn’t yet close to a boil. Suffice to say recent macro shifts raise questions about the notion that developed economies will return to secular stagnation. It’s possible we aren’t in Kansas anymore, and if that’s the case, r-star is probably higher, with far-reaching ramifications for assets of all kinds.
A quick read of the minutes suggested the hype might’ve been just that. The word “natural” came up just twice, and in one of those cases it was followed immediately by “gas.” Anyone hoping from an enthralling discussion of the long run dot probably came away disappointed.
“All participants” expected “ongoing” rate hikes would likely be necessary to achieve what, in my opinion anyway, will prove to be an especially elusive inflation goal. A “few” officials backed, or might’ve backed, a half-point increase this month if they had a vote. We already know who they were (Loretta Mester and Jim Bullard). Bullard reiterated his views on Wednesday morning+.
The account of this month’s meeting was also being watched for any reiteration of the message from the December minutes, which contained cautionary remarks about the potential for market rallies to ease financial conditions, at cross purposes with the Fed’s inflation-fighting goals. Jerome Powell was widely criticized for not repeating that pseudo-admonition during his press conference.
There was an oblique reference to January’s cross-asset rally, but it felt a bit less caustic than the language employed in the December minutes. Notably, it echoed Powell’s contention that financial conditions are significantly tighter than they were prior to the onset of Fed hikes last year, an assertion some critics took issue with.
“Participants observed that financial conditions remained much tighter than in early 2022,” the minutes said, before quickly noting that “several participants observed that some measures of financial conditions had eased over the past few months.”
The figure below is familiar to regular readers, as is pretty much every visual I’ve used to illustrate this dynamic. As mentioned previously, I prefer Goldman’s gauge (to Bloomberg’s, for example), and I prefer the annotated version, as it provides helpful context.
The overarching point: On the eve of the February FOMC meeting, financial conditions had eased materially, on par with the FCI easing impulse that prompted the pushback found in the account of December’s meeting.
“A few participants noted that increased confidence among market participants that inflation would fall quickly appeared to contribute to declines in market expectations of the federal funds rate path beyond the near-term,” Wednesday’s release went on, before reiterating that participants thought it was “important that overall financial conditions be consistent with the degree of policy restraint that the Committee is putting into place in order to bring inflation back to the 2% goal.”
The key word there is “overall.” Powell typically dodges questions about asset prices (and particularly stocks) by referencing “overall” financial conditions. And to be fair, lending standards (to use one example) are tightening materially.
In fact, according to the most recent vintage of the Fed’s Senior Loan Officer Survey, standards for small businesses are tightening at a rate that’s historically been consistent with recessions. Banks are also turning the proverbial screws on credit card loans.
So, it’s probably not strictly accurate to charge that Powell (or the Fed) is “wrong” to say financial conditions have tightened significantly. But if you take a market-centric view (i.e., if you consult equities, yields, spreads and the dollar), it was certainly true that when Powell opened the floor to questions earlier this month, conditions were easing, arguably calling for a more forthright rejoinder than the response he delivered when queried on the issue.
The minutes released on Wednesday also said that “a number of participants observed that financial conditions had eased in recent months, which some noted could necessitate a tighter stance of monetary policy.” Again: That’s pushback on the rally, but it felt perfunctory.
Suffice to say policymakers are clearly cognizant of the risk, but at this point (i.e., ~50bps higher in three weeks for the market-implied terminal rate, ~40bps of re-steepening / disinversion in M3Z3, a ~50bps run up in two-year yields, three weeks of gains for the dollar and so on) it almost seems like a stale debate. The only place the hot data and accompanying “higher for longer” narrative buy-in isn’t showing up is stocks, and even equities seemed to take notice on Tuesday.
Ultimately, the “hotly-anticipated” February FOMC minutes weren’t much of a page-turner. There was no fire and brimstone on the read-through of higher stocks for financial conditions, and no substantive discussion of the bigger issues macro watchers are keen to debate.
Such is life. Expect to be underwhelmed and you’ll never be disappointed.
Does it matter, in the long run if Powell “baby steps” his way to his goal vs. “giant steps” if it ultimately succeeds (or partially succeeds) in accomplishing the goal?
Good question. I imagine the concern is that the longer inflation remains elevated, the more inflation expectations could rise. But that’s perhaps more theory than known. Another concern might be that an extended period of high interest rates would be challenging for asset prices and debt service. But I don’t, personally, feel that interest rates are “high” now, or that asset prices should be supported at these levels. As for debt service, perhaps incentive to strengthen balance sheets is not a bad thing.