FRB Powell’s two-day Congressional testimony has concluded. No new ground was broken and perhaps the phrase “heightened uncertainty” is an understatement of the current environment. War in the Middle East could drive oil prices sharply higher and tariffs that are already in place raise the prospect of higher prices for both consumers and businesses.
The Fed chief indicated the Committee is signaling that two interest rate cuts will occur by year’s end. [Note: The Chairman does not set short term interest rates…Federal Open Market Committee does…the Chairman is only the spokesperson]
As noted last week, the Committee has become a little more hawkish as seven members believe there will be no cuts this year, up from four in March.
A perplexing question is what is the neutral rate, or the rate that neither adds nor subtracts growth. Is it three percent up from the previously accepted 2% level?
If underlying inflation is 2.5% as measured by April’s core PCE or the Federal Reserve preferred measure of inflation, the view of two interest rate cuts is correct.
However, the median policy maker expects underlying inflation as measured by the core PCE to rise to 3.1% by year’s end, partially the result of tariffs. If this forecast materializes, how can the Fed justify lowering rates? What happens if oil prices increase?
It is almost impossible to suggest what may happen today much less in six months because of “heightened uncertainty.”
Changing topics, equities have staged a torrid rebound from April’s meltdown. Perhaps writing the obvious, the markets have priced in that the headwinds of tariffs, trade, taxes, inflation, new geopolitical order, a petulant President, etc. are no longer a factor.
Waxing philosophically, there are perhaps only a few times the markets have been faced with so many headwinds, and even fewer times the indices have priced in that all are now nonevents even before any concrete resolutions have occurred.
Life is often stranger than fiction. Who could have predicted today’s events much less suggest an outcome.
Commenting on yesterday’s market direction, equities were quietly mixed. The yield curve steepened as the shorter dated maturities rallied and longer dated sold off on concerns that increase debt issuance will put pressure on yields.
What will happen today?
Last night the foreign markets were up. London was up 0.42%, Paris up 0.17%, and Frankfurt up 0.56%. China was down 0.22%, Japan up 1.65% and Hang Seng down 0.61%.
Futures are up about 0.25%. The 10-year is up 2/32 to yield 4.28%.
