The Federal Reserve – the US central bank – gave its latest verdict on markets, monetary policy, and the economy last night. Some had been a tiny little bit concerned that the surprisingly good jobs data from last month would have blunted the Fed’s commitment to loose monetary policy.
Not a bit of it. Here’s Fed boss Jerome Powell, disabusing anyone of that notion: “We’re not even thinking about raising rates. We are strongly committed to using our tools to do whatever we can for as long as it takes."
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The Fed couldn’t have been any more dovish
The Federal Reserve was as dovish (ie, as committed to loose monetary policy) as it possibly could be last night.
Jerome Powell, Fed governor, made it very clear that its main focus is employment. “We’re tightly focused on our real economy goals and we’re not focused on moving asset prices in a particular direction at all.”
In fact, he went even further than that. In the Q&A after his video presentation, Bloomberg journalist Michael McKee put a few pertinent questions to Powell, asking – to paraphrase – how the Fed’s money printing might lead to capital misallocation, and potential higher inequality in the “real” world.
Powell basically argued that there’s no way that the Fed would hold back from stimulus simply because there was a concern that asset prices were too high. “We’re supposed to be pursuing maximum employment and stable prices, and that’s what we’re pursuing.”
To my mind, that’s pretty clear. Powell – like all his predecessors – is not in the business of worrying about bubbles. Indeed, if necessary, he’ll accept them as a side effect of keeping the economy going.
Now, my issue with this is that I don’t think it does keep the economy going. I think it’s extremely disruptive, and I think that one of the main reasons we’ve ended up in the present situation is that we’ve relied on central banks to paper over structural problems rather than addressing them head on. Serial bubble-blowing is not the basis for a healthy economy (or a healthy society).
But that’s a bit beside the point. What matters is not what I believe, but what Powell believes. He’s the man with his finger on the printing press. And because the Fed really only has two settings – pump money in or pull money out – then he’s going to keep pumping money in until people start begging him to tighten up. And that won’t happen until shop prices are rising at a rate north of 5% a year.
My colleague Merryn had a chat with hedge fund manager Hugh Hendry on the podcast the other day. Hugh is sceptical on the ability of the Fed to drive inflation higher. He echoes economist Richard Koo’s point that the Fed essentially has to convince investors that it is entirely irresponsible and couldn’t care less if inflation takes off. (You really should listen if you haven’t already).
The thing is, I’d say that Powell is going some way to giving the impression that he couldn’t care less. So maybe the whole “be less responsible” message is getting through.
Markets face two big risks now
So how did markets react? The tricky thing is, the market has come so far and the Fed has already been so dovish that it’s hard to give investors a big surprise on that front. There are only so many “big bazookas” you can pull out before it all starts to look a bit farcical.
That said, while the US dollar took a breather, it didn’t rocket higher (which is a good sign for the “risk-on”, bullish investor). And while markets paused somewhat, that’s not surprising given how far they’ve come in such a short space of time.
To me, there are two big risks now. One is that concerns about a second wave are mounting. We’ve seen new cases rising in Texas, Florida and California. That’s a big worry of course, because the V-shaped rally is based on the near-V-shaped recovery which has no chance of happening if we have to lock down again.
The other big risk is that European cooperation over the coronavirus fiscal rescue package collapses or results in a much less impressive deal than markets are currently hoping for. I think there may be a little too optimism baked in on that front for now, and I can see an upset on that front being a trigger for markets to take a deeper correction.
What should you do about that? Nothing you haven’t been doing already. As I’ve been saying for ages now, the main reason to understand what’s going on is so that you don’t get freaked out or panicked by events, which in turn means you stick to your plan and don’t do anything stupid.
So markets might well take a breather – or they might carry on regardless. But what I will say is that in the longer run (and when I say longer run, I really don’t mean decades – I’m thinking many months rather than many years) this will lead to inflation. I think the Fed’s statement last night merely confirms that I’m right to think that.
I’ve delved more deeply into why inflation is more likely to get traction this time, when it failed to do so post-2008, in the latest issue of MoneyWeek magazine, which is out tomorrow. Better yet I’ve suggested some funds and shares that might benefit from said inflation. If you’re not already a subscriber, I suggest you sign up to get your first six issues free now.
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