Federal Reserve (Fed) Chair Powell stuck to his script (often literally) during this week’s Federal Open Market Committee (FOMC) press conference. He affirmed the Fed’s commitment to stay the course on its easy monetary policy stance, despite signs of mounting inflation pressures in the U.S. as the economy reopens. He reiterated the Fed’s view that higher inflation is due to transitory factors, while the pandemic remains a risk to the economic and labor market recoveries.
The bond market has been taking a very different view on the transitory nature of the recent pickup in inflation. 10-year inflation expectations (or so-called “breakeven inflation”) have been steadily increasing this year, hitting its highest level since the start of the 2013 “taper tantrum” following Wednesday’s FOMC meeting.
Powell also addressed a question regarding financial stability during a year when events such as GameStop, Dogecoin and Archegos have been raising red flags. He admitted that easy monetary policies have factored in to high asset prices and capital markets that are “a bit frothy.” However, he deflected most of the blame off the Fed, citing the faster vaccination process and economic reopening as the primary drivers moving markets. He concluded his response on financial stability by mentioning the 8.5 million jobs lost since February 2020 and that there is a “long way to go until we reach our goal.” Inflation and financial stability are taking a back seat to full employment in the Fed’s dual mandate.
Extraordinary financial asset performance since the onset of the pandemic has validated the old adage, “don’t fight the Fed.” While the Fed continues to promise easy money as far as the eye can see, a bond market tug of war is beginning to emerge this year. If long-term interest rates resume their uptrend, fiscal and monetary policymakers may be forced to reconsider their plans to “go big” on new stimulus measures.
Tags: Federal Reserve | Inflation | Monetary policy | economic recovery | Labor market | bond market
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