Fed: Powell’s Message

Published on June 25, 2019

Federal Reserve Chairman Jerome Powell speaks before the Council on Foreign Relations of New York at lunch time today, a venue that is interesting in coming so soon after last week’s meeting of the Federal Open Market Committee.

A couple of points:

First, we have little doubt Powell will be dovish in confirming the Fed’s new lean to ease in order to “sustain the expansion.” Our sense is that the Committee consensus over the coming weeks is being shaped by a rising concern over how quickly the “cross currents” buffeting the economy are gathering in momentum.

What were troubling uncertainties stoking hesitation over capital expenditures resulting from the Trump Administration’s trade tariff policies have since May’s rhetorical escalation against China, and especially the on/off again tariff threat against Mexico, become a “game changer” for a clear FOMC majority: the anecdotal feedback from the districts going into last week’s meeting, and now showing up in some of the manufacturing data, is telling a story of a rapid pullback by the US manufacturing sector struggling to reassess global supply chains and export markets.

Second, as much as the dovish lean is now tipping the balance in the Committee, we still doubt very much that the Chairman will offer any hints on the scale of a rate cut, whether by 25 or 50 basis points, or indeed any sharper assurance an ease is near certain; the data between now and the end of July, and obviously the outcome to the high profile, high stakes G20 meeting this weekend between Presidents Trump and Xi, will be decisive in solidify both the decision to cut and by how much.

But only a low probability turn to the upside across the coming days would nix a rate cut at this point. And as to the size, there are clear arguments drawn from most of the Fed’s forecasting models on the merits of an aggressive first rate move to maximize the impact of an easing when the approach to the Zero Lower Bound is part of the rates equation. But that decision is still some weeks from now.

Equally, we don’t think the FOMC is anywhere near yet a consensus on whether a rate cut, if and by how much as early as in July, will be a one or two step rate easing aiming to reset the policy rate a bit below a short run r* estimate – the insurance argument – or whether it will indeed be the start of a major easing cycle that they hope will not bring rates all the way down to the ZLB.

Third, and as important to the coming rate decision as the data, will be the behavior of the financial markets. Neither Chairman Powell nor the Fed officials who have spoken since the June meeting have pushed back against the aggressive market pricing, and in some sense, there is no need to until the moment of policy decision nears. If the pricing is seen to be too aggressive, there is a sense there will be plenty of time to undertake a messaging reset of expectations.

But what will be even more interesting and potentially important to market pricing will be whether Chairman Powell offers today any degree of a gentle pushback against “financial excesses.” With inflation in the real economy being so inertial with little prospect of threatening to the upside, it is financial excesses and financial stability that will enter into the risk management cost/benefit calculations.

And finally, it will be especially interesting to see whether Chairman Powell opts to push back against President Trump’s ongoing efforts to shift the blame for the slowing economy from his trade policies to the Fed and a too tight monetary policy stance. That none of the current cross currents weakening the economic expansion are due to a high cost of borrowing or tightened financial conditions could be a tempting, even if politically controversial, point to make.

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