The Federal Reserve released the minutes from its FOMC meeting Sept 21-22 on Wednesday afternoon. The press release is here. Should you be interested in more detail, the revised “Summary of Economic Projections” is here. The release of the minutes was followed by a Q&A with Fed Chairman Powell.
I listened to Chairman Powell’s Q&A, and really heard nothing new as far as tapering or rate policy:
Chairman Powell was clear that the Fed’s policies will remain “data dependent”. He signalled no real change to the trajectory of the US economic recovery aside from the ongoing risk of an uncertain turn for the worse due to the virus.
The focus remains mainly on achieving full employment, which Chairman Powell defines as the unemployment rate prior to the pandemic (3.5% in Feb 2020).
He emphasised that inflation is transitory, and that in any event, the Fed’s inflation target is above 2%/annum for some period of time until the US economy reaches full employment.
He implied tapering should end mid-2022, which puts the Fed on course to begin reducing its asset purchases in 4Q21 (currently $120 bln / month)
Mr Powell implied that “lift off” (meaning raising the Fed Funds rate) would not begin until tapering is completed, which implies 2H22. The “dot plot” (see p 3 of Fed’s economic projections) implies that there will be two rate rises in 2022 (post-tapering) and another three-four in 2023, with the rate reaching 2%+ (highest cluster of dots) in 2024.
This means that the ultra-accommodative policies of the Federal Reserve remain set to continue, as expected. The S&P 500 was at 4,400.18 (+1.06% from yesterday’s close) at 1pm, prior to the release of the minutes and the press conference and closed the day at 4,395.62 (+1.01% for the day). Equities did not react because the Fed is sticking to its policy line as advertised.
Taking a longer term view, the highly unusual policies of the Fed – necessary to “protect” the economy during the pandemic – will continue to fuel an asset bubble in several asset classes, with the obvious ones being the US stock market and US residential real estate (albeit geographic -specific for real estate). My fear is that the larger the bubble, the more difficult it will be for the Fed to navigate a soft landing. Will we ever see a Fed Funds rate again above 2.5% or a 10-year US Treasury yield above 4%? I think not, because without the life support provided by the Federal Reserve, it is almost certain the economy will stumble and asset prices will fall, causing a dangerous negative feedback loop due to the wealth effect.
In the Q&A, Chairman Powell also spoke to the potential conflict of interest involving Federal Reserve governors Robert Kaplan (Dallas) and Eric Rosengren (Boston), both of whom were recently cited as trading select equities and rates products during the pandemic. The Fed will review its ethics rules, and both governors have agreed to divest their holdings and move to passive investment funds.
Lastly, Mr Powell was asked about Evergrande. His response – with which I fully agree – is that the connection with the US economy and its recovery is de minimis aside from sentiment or confidence. This is a China issue.
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