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A change in the statement, but no change in rates.
The economic overview remains the same word for word, with solid growth, strong job gains, and inflation that's eased over the past year but remains elevated and then a new line. In recent months, there has been a lack of further progress toward the Committee's two percent inflation objective. Still, the statement says risks to achieving its employment and inflation goals have quote moved toward better balance over the past year, putting the assessment in the past tense and adding over
the past year. The additions to the statement would seem to ratify the markets view that there will not be three rate cuts this year, if any at all. The statement's view that the Committee does not believe it would be appropriate to reduce rates until it's gained further confidence inflation is moving toward target is unchanged.
Now the long awaited balance sheet taper is here.
The treasury roll off cap will drop from sixty billion to twenty five billion a month starting on June first. Officials had suggested it we'd be lowered to thirty billion as expected. No change in the thirty five billion dollar cap on mortgage backed securities. However, any maturing securities over the cap will be reinvested in treasuries rather than mbs.
The vote unanimous, and that's it.
Mike McKay, Thank you, sir, Stay close. Let's run through this price action. Mike McKy is going to run into that news conference in just a moment. Equity is recovering just a little bit, still down on the session by a tenth of one percent. Retention, of course, immediately turning to what's happening in the bond market. In the bond market at the moment the rally sticks you'l to lower by four basis points on a ten year four to sixty four on a two year down three, just about
holding on to that five percent level. Lots of attention in the FX market, what's happening with Dolly Yen. But again strength off the back of this Dolly En backdown to one to fifty seven fifty four. It was always going to be difficult to out hawk what was already very hawkish pricing in this market. Bear in mind, though this is the first act of a two part story. The other act is in about twenty eight minutes time when we hear from the Federal Reserve chairman. So do
you want to play compare and contrast? I think we could do that, Bramo. Briefly, I'll go through this. It might sound a little boring, but every word seems to matter. The last statement the first paragraph read as follows. Recent indicator suggests that economic activity has been expanding at a solid pace. Job gains have remained strong, and the unemployment rate has remained low. Inflation has eased over the past year, but remains elevated. That first paragraph has changed. This is
how it reads now. Recent indicator suggests that economic activity has continued to expand at a solid pace. Job gains have remained strong, and the unemployment rate has remained low. Inflation has eased over the past year, but remains elevated. In recent months, there has been a lack of further progress towards the committee's two percent inflation objective. I just wonder how long the conversation was Bramo. In the f WEMC so agreed to that last line of that first paragraph.
You know, I wonder because the discussion among Fed officials who did speak in the week before the quiet period was more hawkish people seemed genuinely concerned. I don't think that maybe there was disagreement with this. I just wonder how much conviction feed Scher Powell will have in this news conference to really build on that and say just how much less conviction they have and just how much they are going to do to offset some of the lack of progress.
I think they've got away for more economic data. In the bottom line, John, you tool it off jobs Day? Do we link right now to Friday's Jobs Day? I'm sorry we do. There's no real indication here of the labor market cracking. Jolt survey today was a little week. Bob Michael mentioned that, but I just think they have to wait there. In massively expost.
Position fantastic lineup. Gonn gets to the news conference. Bob michae is still with us, joining us now a place to say, good friend of this program, good friend of ours. Mohammed Aaron of Queen's College, Cambridge. Mohamed, You've had a few minutes to go over this one. What jumps out.
Three things, John, One is the characterization of growth is stronger than I would have expected. Two is the reduction in QE is larger than I expected. And then finally that additional sentence they've put in about inflation is going to put chair pal in a difficult situation the press conference because people are going to say, okay, finish the sentence. It's been two the progress hasn't been achieved. Why is
it something temporary? Is it something structural? So they've left wide open the question of why has progress been less than they expected on the inflation front?
Mohammed, if I look at this press conference, this is a central banker with an original script and not much theory involved at all. Can you get out front of the debate ex ante or is this an ex post discussion?
Tom? I'm really glad you raise it.
This is an ex post discussion. This is a fed that, having been burnt by trying to be the ex anti back in twenty twenty one, has become totally exposed, totally data dependent, totally we active, and that is a problem for the economy. That is a real problem for the economy. So no, he's going to remain exposed. We're going to hear data dependency I don't know how many times during the press conference.
Which raises this question which data matters more? We were talking about data that we got earlier this morning about ism manufacturing showing weakening activity to your point about the surprise and how much they had conviction and strength, but also stickier inflation that came in higher than expected with
prices paid. How will this fed view that data that I don't want to say stagflation because I've said it so many times and I'm sure people will be making fun of me for that, but I am wondering if this is sort of not ideal for them, and if there was respond more to the inflation side or the economy side.
So I call it tagflationary wins.
Thank you.
I mean, I can live with taxflation or light that you used inflationary when they're not going to acknowledge that, because it puts a question front and center, which is what is the right inflation target for an economy that's going through fundamental supply side changes. You know, if you look at what is sticking in inflation, it's not particularly responsive to higher interest rate for longer.
It really isn't.
So if they acknowledge the softer economy, they end up having to then discuss, at least internally, whether two percent is right inflation target and a phrase that John did not read out in the statement is they are strongly committed, strongly committed to returning inflation to a two percent target.
Give me a chance, Mohammed. I was just itching to get to you, to get a reaction from Michael with us as well, you're going to rite.
Just threw you under the fail giant.
We got Mohammed back up. Always got a sense but.
The state.
But that was in it before.
It wasn't the more notable thing. It wasn't struck out. It didn't change John. That's the reason why, in fact.
I've never read a statement continue.
You didn't even need to tell us that, Hammud, What are you doing to me? I don't know. Bob, Michael a great friend of this program. To see you, Bobby, your thoughts on this one.
As Michael McKee was reading through the commentary, I thought, boy, this is really good for the markets, because here's a FED that's telling us look at the longer term, look where inflation was, and look where we've gotten it to. Don't worry about the last couple of months. We'll see what happens there. I actually think that's the right message. I don't believe the law of long and variable lags
has been repealed. I think they've been delayed because of all the physical stimulus that's still on the pipeline, but they're still there. You are seeing some pressures on the economy. Like Muhammad, the only thing I was surprised about is that they characterized the economy as still solid.
I look, Muhammad, I want to bring this up everybody up earlier with Bob.
Mike.
Come to do with you right now. I don't know where you were in nineteen ninety five, maybe at the White House, Muhammed, maybe IMF. But the answer is Bob Michael says, there's whispers here of nineteen ninety five. The stack market was a moonshot off of the success of nineteen ninety five. Is that what we are prepared for here that they may get this right, we may have a constructive nineteen ninety five and up we go.
So where I agree with Bob without any qualifications, is that this particular statement is something that the markets will like. It's exactly what the market wanted as to are we going to repeat ninety five in terms of market reaction? Tom What I'm worried about because I truly believe that this is not about lags, that there are structural aspects that are running the equilibrium inflation rate higher than it has been in the past. I worry that the it's
going to be overtight this year. I worry that the FED is not going to end up cutting because they're going to be so data dependent, so reactive, that they're not going to look at the weakness that's coming. In fact, if you simply read the earnings reports of McDonald's, Starbucks, PepsiCo, Nestley, the list goes on. There is no doubt that low income consumers are struggling, that balance sheet effects have gone from positive to negatives, the pandemic savings are run down,
that credit card balances are high. They rely entirely on the labor market, entirely on wage income, and if something goes wrong in that labor market, we are going to see this economy slow, much faster than anybody would like it to slow.
Well might as well talking about a loss of pricing power. Have been talking about that over the last few months or so. But Michael and place that Tom brought up the mid nineties, you've talked about the mid two thousands. You share those concerns about economic weakness cracks's time to build. Yet you are still bullish, as bullish as you have been since the two thousands. Could you explain why?
Well, I think Muhammed's right. I think you have to watch how businesses are reacting in this environment, and there are some pressures. I think what we need to watch is the unemployment rate does not start to go above four percent, and certainly at four point two percent, it would get the Fed's attention and they would do something as long as inflation is reasonable. And what they did in ninety five is come in and cut rates three times.
As I said, that's the one soft landing that I've lived through in my forty plus years in the market. It looks like it's doable again, but it can't be a FED that sits on the sidelines the entire year and leaves real yields where they are.
I have to give you a victory Lapbob, because you've basically said that this is what they might do to kind of give a nod to a little bit more of a dubish stance while having a more hawkish stance in the actual statement, which is maybe essentially what they're doing, which is the reason why the market might like this. I am wondering that Muhammed's point about stagflation light or the wins of stagflation, that they're not going to address this.
They're going to talk about strength in the economy, so they don't have to address that. Maybe they're looking at a three percent target of inflation rather than two.
Pal's probably laughing every time he hears stagflation because he remembers and he's probably thinking, what I am a vulgar? Here go two point eight percent core PCE year over year. I would take that in as second. And if you go back to ninety five to ninety eight, which Tom points out was great for markets, inflation traded between two and a half three percent. It was a pretty vibrant economy. I don't know what markets will do. I think that kind of economic scenario is really.
Let me joh on next moon exit nineteen ninety eight was a moonshot, the that one from four thousand, ten thousand, just you know.
I remember somebody's looking to get out of triple eleven.
That's what I'm I'm.
Looking for the first tra triple leverage.
Today's the days, Today the day Buff's got some buns to sound and I swung to and just now chief economists the KPMG, Mohammed and Bob are going to be sticking with us. Dan, you've had eleven twelve minutes to go over this, going against the news conference with Chairman Pou eighteen minutes away. What's your big question for him after reading that statement.
Well, one of the things that I'm surprised at that they could have gone more hawkish on, and I think the nod to inflation picking up more recently was the compromise is that they left that they're waiting to decide
when to reduce rates. And you've got to believe within that meeting, given that we've heard that it's a possibility that we could see rate hikes if inflation persists, from FED leadership themselves that to keep that line reduce rates when they're going to reduce rates, that they still think the threshold to raise rates is much higher than the threshold to cut rates. I think that's where the bias
is within the FED. However, what I'll be looking for in the conference the press conference is was their debate and in the minutes to this meeting, was their debate about the possibility that they might need to raise rates now. I think the move up in inflation we've seen is been, you know, somewhat overstated. We know there's some residual seasonality somewhere between the fourth quarter and the first quarter's reality that's still too hot.
And there are what we.
Saw in inflation was much more broad based inflation in the service sector, things like home maintenance, car maintenance. It wasn't insurance as much this month, but those are things that are the things that Muhammad talks about less retractable and also more systemic. But there was service sector inflation
in the employment costs index as well. Not in the lowest wage jobs, particularly in food services and accommodation, where they've been decelerating quite rapidly and are now trailing overall inflation numbers, but in the overall services sector, where we do have some labor shortages still pretty acute, there is wage pressures there, and that's what the Fed's going to be focused on.
Diane. You know that, Diane smart arm As you're not living within three zip codes, there's some fancy university in the United Kingdom. Diane, just simply put, if you drive seven hours south of Chicago, what's it like right now, because I see you with all the mail I get. What you get out on LinkedIn is there's a massive divide right now between the financial people and the rest of America.
What's like south of Illinois.
Well, you know what's really interesting is they've just done a study on this in terms of how different people view what the inflation problem is. Wealthy households, those in the urban areas, they tend to view the entire inflation problem as completely the fault of the Fed. Those who are less wealthy see this as price gouging. They see this as an inequality issue. And we still have gross inequalities even though we had this massive leveling up of wages,
even for low wage workers. As I've said before, they move from the shadows of the economy into the sun, only to be burned by inflation and that inequality. And even though wealth picked up, we saw a cross income strata that wasn't enough, because inequality continued to worsen. And I think that's what you see when you're dealing with this kind of inflation, even though it's at a low grade, and I wouldn't compare it to nineteen ninety five. Nineteen
ninety five the food was wrong. In nineteen ninety four, Chairman Greenspan had a checklist I remember it well, and it filled it out, and he thought he could preempt inflation and he was wrong, and he nearly derailed the economy that was not coming off an inflationary kind of situation that we have today. It's just not comparable.
This race is his question, and Mohammed, I'd love to
get your answer. Since you live within a couple of zip codes of a fancy UK college that Tom was maligning, I will say I want to hear what you have to say about this idea of the messaging of fed share Powell in the press conference, do you think he needs to be hawkish, that he needs to keep the market under pressure in order to keep them on this goal of at least even having the covered cut rates here as you think is necessary, as they want to do,
but under the aspis of data dependency is difficult without.
Some more cracking.
I think the most important thing, Lisa, for him is to stick to what actually happened in the meetings and not end up like we have in the past, where his messaging is different from the messaging from the minutes that we're going to get in a few weeks, because if that happens, that is going to cause too much volatility yet again confusion, and is going to erode forward
policy guidance. If what he says is in fact what was said in the meeting and is confirmed by the minutes, then what he should do is stick to where he is right now, which is not validate the amount of the hawkish pivot. If you like that, the market has done, not go all the way, but goes some of the way. My concern is ultimately he may end up more hawkish than he needs to be for the well being of the economy, but that's more for the next meeting than.
It is for this meeting.
Diane, your view on that, Do you think that he's going to come out maybe more hawkish that he needs to be as well?
I think he is.
I think that is the risk, and it's because the risk has been on the other side. And Muhammed's exactly right. It's very hard these press conferences, having them every single meeting. There is a downside to transparency. We see all the sausage being made, but you also see individual personality of the chairman himself and his own views and how that gets translated and gets muddled in terms of what the overall messaging is. And it's not that he's a bad communicator,
but it is that this is really hard. I think one of the things that I get really frustrated with is how little uncertainty the leaders ship of the Federal Reserve have really shown about the economy. I think Chair Powell has actually been more humble in that regard because he's had to eat crow in public on this issue. But the humility in uncertainty we face is very high.
And that is the sort of you know, coming out and making statements following the meeting to counter or to change the message reflect the message that was in the meeting I think is not productive. But it's also the certainty with which some of these comments are made is really not helpful either, because there is a lot of uncertainty.
Let's face it, We're at two percent on the Fed's you know, run rate for three and six months on core and overall inflation coming down, and people were arguing that they should be cutting like crazy, and the Fed, at least in a prescient manner, said let's be cautious here. We've been for me once shame on me for me twice. Shame on yous fiemy twice, Shame on me. They said, no, I'm not going to be headfaked by this again, and they held back. That was good to hold back, because
in fact we have seen an acceleration. It's probably overstated, but we've got to see where we're going, and there is time with the legs that are already still in the market with regard to fed tightening.
Diane, this was great. Dane swamk KPMG. Dan, thank you talking about humility. You've got to remember four months ago we have people in this program talking about in March, this was a fat that was meant to be already cutting, and now there's a conversation about him at least entertaining the potential of hiking interest rates. Mike Gape at a Bank of America with us now, Michael Gape, and I keep hearing that Chairman Pound is going to be hawkish.
Could you define for us what hawkish will sound like in this news conference, given you, like others, think that the first cut comes in December, which is not anytime soon.
I think hawkish today simply simply is a wait and see message. A we need, we need to give policy more time to work. That's really about as far as I think they go today. I think he can repeat or will repeat their view that the supply side is helping bring inflation down. So inflation is still in a downward trend. Progress hasn't been where we wanted it to be, but we think our policy stance is tight. So the
answer is let that type policy work for longer. I think that's about as far as they're they're ready to go today.
That's that's hawk may.
We'll see what hawkish might look like in June.
Michael, Are we back to normal? Are we beyond the pandemic? Are we talking about fixed income dynamics FOBOSEI one oh one, it makes sense now post pandemic. Or we still live in the debris of what we had for three four years.
No, we're still in the shadow of COVID strung. There's still stimulus that's being distributed. When we talk to our municipal research team, they're talking about state and local governments accessing it, going out, doing some hiring, and spending it. When you talk to businesses, they're talking about accessing some of the Infrastructure Act, some of the chips act, so
that money is still there. When you look at consumer balance sheets, deposit balances on averages are still a little bit above where they were pre COVID, So it's still sloshing around a little bit, but it's coming down pretty quickly.
Which ray is a question about long and variable lags and exactly how the FED views at Michael Gabe, and I'm curious about you or review about whether this is a FED that has yet abandoned that or not. Considering the fact that so many people are saying this is an economy that can live with higher rates. This has been the evidence of it is the strength and the market,
the strength and debt markets in general. Do you think that they're going to go there that it matters in terms of their faith in long and variable lags.
I don't think they'll go there and say great detail today. But I agree with some of the comments that Bob made earlier about long and variable lags kind of still being in the pipeline. I think some parts of the economy reacted very quickly to higher rates. Others it may still be in front of us. So things like fixed rate mortgages, the effective mortgage rate only rising very little corporates needing to refinance at some point there, I think you can make a case that some of the monetary
policy tightening is still in the pipeline. It's just been elongated. I doubt that the chair is going to get into that today, although I think it's a very reasonable question to ask him, you know, in lights of inflation and re months, is your policy stance as tight as you think it is? If not, what are you going to do about it?
Are they sufficiently restrictive? Mike Gape And just a final question from me once to explore. I think we spent the last month or so trying to work out how this Federal Reserve is going to respond every single day to website surprises. Could you entertain this just a little bit, just indulge me. How reactive will they be to downside surprises? I'm trying to understand. You get a downside surprise on Friday,
how quickly will this conversation change? Will we be sitting here talking about cuts all over again?
I mean, I think you'd probably need a number under one fifty to get that discussion on the table. If consensus is right in that two forty to two seventy five R and you have to majorly undershoot that you need something that changes the overall narrative, and people like me would need to say it looks like the catch up effect and services employment is done is over, so the labor market looks fundamentally different. It's a pretty big hurdle in my view.
Mike Gape and a Bank of America, Mike, thank you, sir. Great to catch up with you. Mike Capeen and Bank of America base case December is going to be that first cut. Well, Mohammed, I want to come to you on that. You've talked about how sensitive this federal reserve is from data point to data point. Do you think this has the potential, This conversation has the potential to change and change quite fast in the other direction.
I do, John, because they're so reactive. I mean, the one thing we didn't talk about and Tom talked about the nineties is the economy is changing, both domestically and internationally.
The nineties was.
About deregulation, liberalization, and fiscal prudence. Today it's about reregulation, heavier government intervention, and physical irresponsibility. The nineties was about globalization. Now it's about fragmentation. This is a significantly different operating environment. So the risk is that you miss all those signals and you end up reacting too slowly to what's coming up. You know, I smiled when I when I heard Bob say, well.
It's very easy.
You know, if we get all these bad numbers, the FED can simply react, but by the time it reacts, the harm has been made. It's a little bit like being on a plane where the pilot is reacting to past turbulence. He's just going to add to the turbulence in the short term. So there is an issue about having to step back and ask the question what economy we're operating in and where is the balance of risk for this economy, which has.
Been a big debate. Bob, what's your take on that. Do you agree with Muhammad that maybe they should move quickly if they start to see weakness, unclear what they will do.
It's already there some of the weakness. When you look at consumer sentiment, consumers are frustrated, they're having to make choices on where their dollar goes. They're going down brand. When you look at the housing market, home affordability is a train wreck, and you look at existing home sales they're low, so the consumer is feeling the pressure. You
look at middle market corporate America. Their cost of funding went from call it six percent to somewhere around ten to twelve percent, and that's what they're paying and they're feeling the pressure of higher input costs. That's really strangling their margins. So a lot of it is there, A lot of it is slowing down. Maybe that's some of what we saw in first quarter GDP. I don't know,
but we were going to see more of it. If you look at the unemployment number, for me, if that starts to go about four percent, that's really going to get defence ative.
He and trek Joe Warren.
I got to be real quick here, but I think it's timely. With college protests across America. I'm not sure what's going on at Cambridge.
But I want to be very clear here.
Mohammed on Joe Stigler's book, The Road to Freedom Economics in the Good Society. Is Chairman Powell today going to speak to a fractured America, to the polarities of America, or is this basically to the financial law audience.
I think he's going to speak to everybody in the beginning when he says that the FED is committed to the well being of Americans, all Americans, etc. But he's going to stay a mile away from what's going on on college campuses.
Yeah, he might not say a mile away though, of the fact that they are not necessarily going to be focused on the election. And Bob, do you have the sense that they do not cut rates in July. They only can go in December because of the potential election questions and political interference.
No, I've had enough conversations with former FED officials that if they need to go in September, they will go in September.
What does need to go look like exactly?
For us? It is rising unemployment. It's something about four points.
That's the threashout.
That's it.
Break into the falls.
Would you agree with that? I would. I think Bob is right, get into the falls.
They start to cut what twenty five basis points, so they start to freak out.
Well, it depends what else is going on, because Muhammed is right, once this starts, it tends to escalate very quickly. So if you're going to make that first cut after waiting so long, why not do fifty.
Mohammed I'm just curious what your question would be to Fed Shair J. Powell at a time when a lot of people are just saying simply, what would it take for you to hike rates?
What would your question be?
The one thing we haven't talked about at all is what is a terminal rate? Where does he think we end up? You know, we talk about the journey, but will someone tell us where the destination is?
Will you tell us what you think the destination is?
Mohammed, I think it's significantly higher than what the Fed is saying right now?
There it what Mohammed? So in something two and a half.
Oh no, I think we are Bob sweet in terms.
Of yeah, you think the closet have thought?
Yes, yes, that's what I think we are, Bob.
How do you do quickly here, Bob?
But how do you dovetail with that? With Feruli's potential GDP under two percent, how do we have a run rate above three percent? Is doctor Larian talks about in JP Morgan's publishing out an economy that's a little bit beneath that.
To be kind, everything goes in stages, and a high real FED funds rate is going to slow things down. The Fed will pull back the FED funds rate. I agree with Muhammad, maybe something like in that three and a half to four percent bracket. I think two point six percent is a fantasy that will create enough stimulus that things will pick up again. So it's going to come in cycles again as it always does.
Makes the question it is a fantasy. Why are they adjusting that? Do you think that's just something they don't want to engage with at the moment. Have a debate about where that long dots should be. Is that what that's about?
Well, my question that Mike McKee should be asking is have the dots outlive their usefulness? I believe they have. I think they should do away with it. I think in twenty twelve, when they were in completely uncharted territory, they helped for a very brief period of time.
Bob Michael if JP Morgan's is a brilliant Mohammed al Errand of Queen's College, Cambridge that to both of you, thank you very much for being with us.