Market participants don’t fully appreciate the Fed’s reflexivity “problem.”

I put problem in scare quotes because it’s only an annoyance for the Fed if they too don’t fully appreciate it, and by now I think they mostly get the joke. And also that it — the joke — is on them.

Plainly, Nick Timiraos wasn’t just musing idly when he suggested, on Thursday afternoon, that market pricing for next week’s FOMC meeting had by then gone too far in fading a possible 50bps first cut. Neither was it a coincidence that the Financial Times said pretty much the same thing at pretty much the same time. And it wasn’t an accident that the former officials — including Esther George, not exactly a famous dove — quoted by Timiraos and the FT all suggested, in their own way, that the Fed might end up getting to 50. For good measure, Timiraos quoted Powell’s former advisor saying precisely that.

The Fed’s goal, first and foremost, was to reset market pricing such that rates were better aligned with the coin flip that next week’s decision apparently still is. But it wasn’t lost on the Committee that in doing so, they risked putting themselves in a position where only cutting 25bps would tighten financial conditions. If the market suspects you’re leaning towards 50 and you go 25, you risk a stock selloff, higher reals and dollar strength. So what? Well, depending on the severity and persistence of any such adverse reaction, that can serve as a de facto hike, offsetting the cut you just delivered.

“Now that the market is back pricing as much likelihood on the 50bps as 25bps cut out of the gate, anything but 50bps will disappointment market pricing, hence acting to tighten FCI, and at a time when the Committee’s reaction function” is almost singularly focused on the labor market, Nomura’s Charlie McElligott said Friday, on the way to quoting his colleague in rates, Jack Hammond, who, in his words, “just can’t help being hooked on a feeling that they will surprise and cut 50” for the following seven reasons:

1. “Several” FOMC members were ready to cut rates in July. At the time, the Urate was at 4.1%. So while we got a relief move to 4.2% last week, it is still higher than where it was at their last meeting
2. The actual Urate is higher than all but three projections from the June SEP
3. The actual Core PCE level is lower than every projection from the June SEP
4. Among the “several” we can assume John Williams was one of these based on the fact that the NY Fed and Chicago Fed both voted to reduce the discount rate
5. Powell stated “we don’t seek or welcome further labor market cooling”
6. We have not heard from Jefferson, Cook or Kugler — board members who are perceived to be more in line with Powell
7. Waller did not signal a commitment to anything, but he said the risk was now tilted to labor markets over inflation

Without wanting to suggest the odds of 50 are higher than a coin toss — especially given how absurd that might come across given that just 24 hours ago, I thought the door was closed almost entirely to a half-point move — it’s very difficult to think the Fed would’ve green-lighted that Timiraos piece if Powell weren’t in the process of trying to herd cats around 50bps.

That doesn’t mean he (Powell) will get there. The data’s mixed and as reader after reader pointed out this week, they can always up the ante in November and December if they need to.

But, coming quickly full circle, the Fed’s aware of its reflexivity with markets. They knew that by floating the trial balloons on Thursday, they were setting up a situation where not delivering 50 would constitute a disappointment, thereby risking a cross-asset response that offsets the 25bps cut if not communicated properly and delivered with the “right” mix of forward guidance, projections and a commitment to end QT posthaste.

So — and with apologies for the 24-hour about-face — Powell’s probably leaning towards 50 for next week. If he doesn’t think he can get consensus on it, I’d expect to hear something else from Timiraos between now and Wednesday.

Finally, I seem to be alone in suggesting the Fed should try, as much as possible, to blend in with the wallpaper at the November meeting, which is to say they should stay out of the news cycle. Lest we should forget: Donald Trump was merciless in his public criticism of the Fed during his presidency, he’s already been after them about cutting rates (at all, even 25bps) next week and there was a riot in D.C. after the last election.

In my view, it would be unwise — not to mention wholly naive — for the Fed to discount the possibility that the political environment on November 7 will be so fraught as to make cutting rates by 50bps at that meeting a risky endeavor. And you can take “risky” however you want to take it.