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Flash — Post FOMC Meeting 

I wanted to quickly frame Wednesday’s Fed meeting from my perspective. 

I will not provide a deep dive into parsing every word within the post-meeting statement, analyzing each dot in the Summary of Economic Projections (SEP) or the subtle undertones of Chair Powell’s comments and Q&A session, as you can get much better and more detailed analysis from folks who are actual Fed Watchers.  However, I did want to offer some observations and my quick takeaways. 

In my opinion, the statement, the DOT plot, and Chair Powell were consistently hawkish and in line with the way I have been interpreting the aggregation of Fed communications since Jackson Hole.  It is evident to me that their message and intent is NOT dovish, and everything released today was well articulated to make that as clear as possible. 

So, we are once again back to the core central issue — the Fed’s intentions are higher for longer. BUT are they reading the inflation data and other supporting evidence properly and in a way that leads to them to actually needing to follow through with their messaging?  What if inflation falls faster, the labor market tightness loosens more quickly, and the economy weakens more than is forecasted in the SEP, which leads to less for shorter? 

My view has been and remains that the battle to get the inflation rate down to the 2% Fed target will not be easy, which is in stark contrast to others who are forecasting a sharp and fast decline that diffuses the need for the higher-for-longer outcome.  This differing in views will likely be an ongoing heated debate well into 1H23.  More on this in coming notes. 

Specific observations and takes post the FOMC meeting:

General comments from Chair Powell:

• Updated projections of policymakers’ forecasts showed a revision of the terminal rate to 5.1%, reached next year.

• Officials saw the risks to their inflation forecasts as to the upside, and viewed price pressures in services as having been very slow to move down amid a tight labor market.

• Reducing inflation is likely to require a sustained period of below-trend growth and some softening of labor market conditions.

• The worst pain would come from a failure to raise rates high enough and allowing inflation to become entrenched in the economy.

• One of the key things he’s watching within inflation: non-housing core services, which is heavily tied to the labor market.

Bottom line: My takeaway is that the FOMC has not actively shifted towards dovish and this is another important reminder that they see stopping too soon as their biggest risk.  Also, the bar to move towards a new easing cycle is set quite high. 

Labor market comments from Chair Powell:

• The labor market remains extremely tight.

• Says that there’s effectively a 3.5 million hole in the labor market.

• There just aren’t enough people.

• We’re looking for wages to start moving down to more normal levels.

• Wage gains right now are running “well above” what would be consistent with 2% inflation.

• Services inflation will be slow to come down because the labor market is strong, wage growth is still high, and wages feed most directly into services prices.

Bottom line: My takeaway is that the FOMC is clearly looking at much more than just goods inflation, and they will definitely need to see some weakening in the labor market to complete the set up for a more definitive dovish downshift. 

Labor market comments from Former Federal Reserve Bank of New York President Bill Dudley on Bloomberg TV after the FOMC meeting:

• It’s all about the labor market.

• He was a little surprised that the markets weren’t taking the Fed more seriously.

• “The Fed’s actually pretty hawkish here,” Dudley said. He also drew attention to Powell’s comments about the need for financial conditions to reflect Fed tightening action.  “If markets ease financial conditions, the implicit notion there was that just means we’re going to have to do more to make financial conditions tight.”

• Wage gains will take time to slow, given how tight the labor market is, and that’s why it will take the Fed a while before it can get inflation back down to 2%.

• Service-price inflation is more tied to wages. And wages are rising about 5% or 6%, a ways away from being consistent with 2% inflation.  Economists usually pencil in around 3% wage gains being in line with 2% inflation.

Bottom line: My takeaway is that Dudley strongly supports and expands Powell’s comments about the importance of the labor in the Fed’s current inflation fight. 

Financial conditions comments from Chair Powell:

• It’s important that overall financial conditions reflect policy restraint instituted by the Fed. Policy actions work through financial conditions, and Powell says their focus isn’t on short-term moves. They’re not at a sufficiently restrictive stance yet.

• Financial conditions fluctuate in the short term in response to many factors, but it’s important that over time they reflect the policy restraint that we’re putting in place.

Bottom line: My takeaway is that the Fed is not going to react to day-to-day changes in financial conditions, but if they ease too much it is clearly not desirable.  Thus, Chair Powell will likely not see equity markets higher, a plummeting U.S. dollar, and falling interest rate expectations as advantageous and allow them to continue for too long.  Does this cap any potential short-term equity gains?  I guess time will tell.