Soon enough, Donald Trump will announce Jerome Powell’s successor.
That person — probably Kevin Hassett — will be expected to lower rates, aggressively if possible.
There’s a check on that: Inflation. Trump’s underwater in single-issue inflation polling, and badly at that.
There’s the chart again. He hasn’t boasted a positive net approval rating on inflation since early-February, which is basically to say this is one promise he hasn’t kept.
As I put it earlier this week, consumer inflation expectations in the US are likely to be more volatile now that those too young to remember the 1970s have experienced a bout of what, for an advanced economy, counts as runaway price growth.
If Trump pushes the issue on rate cuts against a macro backdrop that doesn’t call for them, he’s playing with fire. And he could lose the long-end of the Treasury curve anew.
With that in mind, the simple figure below, from BofA, gives you a sense of what to expect if history “rhymes” (as the old adage goes) around Trump’s Fed pick.
Suffice to say things got a little dicey the last time a “tricky” US president installed someone beholden at the helm of the central bank.
“From Nixon’s nomination of Arthur ‘run it hot’ Burns in October of 1969 to February 1970, UST 10-year yields [rose] 100bps and the Dow [fell] 11%,” BofA’s Michael Hartnett remarked.
In the same note, Hartnett went on to caution that in the three months after seven Fed Chair nominations since 1970, yields were up every single time, both at the short- and long-end.
Having Hassett as Fed Chair is the same as having Trump sitting there. He’s proven himself the perfect sock puppet. The other members of the FMOC better get their mortgages in order.
I don’t know what the external factor is that drives inflation in 2026-27 . . . what is now’s analogue to oil in the late 1970s, Covid in the early 2020s?
Suppose the US roll over into a recession in 2026, whether a full-on recession or an “everything but AI” recession that turns full-on as the AI part slows. Seems the resulting demand destruction, absent an external factor, would be disinflationary if not deflationary.
Granted we have the heavy deficit spending of those periods, despite no Vietnam War and no pandemic, and in recessions the deficit gets even bigger.
Tariffs?
Long term, tariffs can be deflationary. As other countries eventually retaliate, the tariffs can effectively shrink global trade and GDP for everyone involved. That leads to thinner margins, lay-offs, and deflation. Eventually, it can become a spiral that feeds upon itself as it appears to have done in the 1930’s (the Kindleberger Spiral). I am not sure if the current administration is hoping to offset any eventual tariff deflation with rate cuts, but that sounds like a very risky proposition at best.
A Trumpian Fed might exploit the swap lines during times of panic to extract additional “terms/price”. Not exactly a Kindleberger Trap as the Fed would be willing to provide liquidity, but what will the Fed Trump extract?
The Kindleberger Spiral is a spiral-shaped diagram that Kindleberger used to show how tariffs (protectionism) led to more tariffs and an ever-shrinking world economy in the 1930’s. The Kindleberger Trap was a broader geopolitical concept. My point was that the current administration might think that lowering rates now–and risking inflation–could offset any potential deflationary “spiral” caused by tariffs, but we haven’t seen that deflation yet.
Pretty optimistic forecasts for next year being publiushed (“dropped” for you younger readers)
But then, “Some people” seem to believe we are “Flirting With Disaster”. A rousing Friday Family Favorite here.
Okay, I finally have to ask, how do you embed video in comments? My clearly insufficient internet sleuthing hasn’t turned up anything useful.
I have been thinking about scenarios for next year, such as 1) “stagflation” 2) “recession” 3) “muddle through”; how you’d position portfolios for each; what probability and thus weight you’d give to each scenario portfolio; and what preplanned moves you’d have to shift weight as the future reveals itself. It is an interesting exercise and, in my opinion, more practical than the point predictions that Street strategists are required to make.
In 1969/1970, we had a budget surplus to control inflation. Here is an interesting read – the economic report that Nixon made to Congress in February, 1970.
https://www.presidency.ucsb.edu/documents/annual-message-the-congress-the-economic-report-the-president-6