Pro Perspectives 8/4/22

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August 4, 2022

Don't underestimate the significance of the events of last Wednesday (last week).
Heading into that Fed meeting, we had made the case that with another rate hike, we may have reached the end of the tightening cycle.
Indeed, Jay Powell delivered reasons to believe that might be the case. 
He said they had reached neutral on rates (not accommodative nor restrictive of economic activity).  And he said they would no longer "guide" on policy, but take things meeting by meeting, dependent on the data.
Then, hours later, Congress approved nearly a quarter trillion dollars of fiscal spending, and then immediately disclosed that the Build Back Better agenda would be funded too.  Congress pulled out the bazooka, in the face of forty-year high inflation.
Now, let's assume that the Fed was fully privy to this government spending bazooka that was being loaded to fire.  And still, they told us explicitly that a "neutral" Fed Funds rate is more than 600 basis points below the most recent inflation reading.
If you didn't believe me when I said the Fed was using "tough talk" (and "forward guidance") all along, with no intention of aggressively fighting inflation, the sequence of events last week should give you plenty of pause. 
The Fed has been bluffing.  It's all been talk, no meaningful action.  They don't have the appetite (given the debt servicing conundrum) to combat inflation.
With that, if we look back through history, major turning points in markets have often been the result of some form of intervention (i.e. policy action or adjustment). 
This one-two punch of monetary and fiscal (in the same day!) would fit the description.  
With Congress's foot on the pedal, and the Fed foot coming off of the brake, we should be in for persistent inflation, but also high growth.  Asset prices, UP.  Dollar, down. 
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