FOMC meeting after action report:

The tides have changed

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Article Type
Insights
Topic
Macro
Published
December 14, 2023
Read time
3 mins
Author
Frank Rybinski, CFA
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Feds tidal shift

 

At this week's Federal Open Market Committee (FOMC) meeting,Chairman Jerome Powell and the updated Summary of Economic Projections essentially closed the door on any more interest-rate hikes, which turns the debate to when will the rate cuts start. This marks a major tidal shift from the pivot to a hawkish narrative that started almost two years ago to the day.

 

The Fed is clearly worried about keeping its policy very restrictive for too long.

 

That sentiment was underscored by concerning comments in the November Beige Book, which cited increased cost of financing as an impediment to growth and that half of the districts were reporting economic contraction. The Fed doesnt want that economic pullback to become widespread.

 

While recent inflation readings give the central bank cover fire to pivot, more cover is needed in order for rate cuts to occur.

 

However, its important to recognize that Jerome Powell is not Alan Greenspan. The former Fed chair was a monolithic character: It was his view and then everyone elses (if they were a band, it would be named Greenspan and the Fed). Powell is a lawyer not an economist by training and is much more of a consensus builder within the committee. Thus, I would be surprised if comments from other Fed members going forward dont echo his pivot.

 

Market reaction: Its a pivot party, but inflation is not invited

 

In a nutshell, the market is basically saying inflation is yesterdays news. If inflation crashes the party, the market would have to take some cuts out of its pricing. (As of this writing the market has priced in six rate cuts in 2024, starting in March).

 

Its worth noting that there are only three more consumer price index reports and three more personal consumption expenditure reports before the March FOMC meeting. And the market seems to be betting they are all going to be weak enough to give the Fed high confidence that the path to its 2% inflation target is locked in.

 

In our opinion, the market got a little too carried away. Services/super core inflation (core services, excluding housing) is linked to wage growth, so there would likely need to be continued moderation in the labor market (i.e., an increase in unemployment) for that to happen. It will be a challenge for a steep increase in unemployment to occur by March, especially as financial conditions just eased significantly.

 

Revising the growth forecast higher

 

The Fed offered no pushback to the recent notable easing of financial conditions. Thats a stark contrast to the November FOMC meeting, when the tightening of financial conditions was cited as a reason why the group didnt hike. Combining this with the Feds dovish messaging will only foster easier financial conditions going forward, which would positively affect growth. As a result, we are flipping the odds of a growth recession to two-thirds and now see the odds of a recession down to one-third.

 

Number of rate cuts

 

We are adding two more rate cuts in 2024 (for a total of four during the year), starting in July and continuing each meeting afterward. However, we acknowledge the possibility of additional cuts depending on how the inflation/growth trade-off plays out. We aren't confident in the March start date the market is predicting, since the easing in financial conditions could create a headwind to the recent disinflation trends.

 

If there are more cuts (i.e., a total of five in 2024), we see June being the earliest they begin (unless growth really falls apart).

 

In order for six or more cuts starting in March to occur, the labor market would need to rapidly weaken (and there are only three payroll reports that will be released between now and March). And such a quick collapse in labor would likely mean a hard economic landing would be unfolding.

Important disclosures

Author

Frank Rybinski, CFA
Head of Macro Strategy

Frank Rybinski, CFA, is head of macro strategy responsible for guiding the firm’s global macroeconomic view as it pertains to tactical and strategic asset allocation.

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FOMC meeting after action report: The tides have changed
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