Here are three things the Fed did wrong and what still isn’t right

The exterior of the Marriner S. Eccles Federal Reserve Board Building is seen in Washington, D.C., June 14, 2022.

Sarah Silbiger | Reuters

After years of being a beacon for financial markets, the Federal Reserve suddenly finds itself in question as it tries to navigate the economy through a perverse spurt of inflation and away from the darkening clouds of recession.

The complaints surrounding the Fed have a familiar tone, with economists, market strategists and business leaders weighing what they see as a series of policy mistakes.

Essentially, the complaints center on three themes for past, present and future actions: that the Fed has not acted quickly enough to tame inflation, that it is not acting aggressively enough now, even with a series of rate hikes, and that should have been better at seeing the current crisis coming.

“They should have known that inflation was widening and becoming more entrenched,” said Quincy Krosby, chief equity strategist at LPL Financial. “Why didn’t you see this happen? That shouldn’t have come as a shock. That, I think is a concern. I don’t know if it’s as blatant a concern as ‘the emperor has no clothes’.” But it’s the man on the street against the PhDs.”

Consumers, in fact, were voicing concerns about price increases well before the Fed started raising rates. The Fed, however, stuck to its “transitional” roadmap on inflation for months before finally approving a small 0.25 percentage point hike in March.

Then things suddenly accelerated earlier this week when word got out that policymakers were getting more serious.

‘Just don’t hit’

The road to Wednesday’s three-quarter-point increase was peculiar, particularly for a central bank that prides itself on clear communication.

After officials for weeks had insisted that the 75 basis point rally was not on the table, a Wall Street Journal report Monday afternoon, with little source, said more aggressive action was likely coming than the planned move of 50 basis points. The report was followed by similar reports from CNBC and other media outlets. (A basis point is one-hundredth of a percentage point.)

Ostensibly, the move followed a consumer opinion poll on Friday showing that expectations were rising for long-term inflation. This followed a report that the consumer price index in May gained 8.6% from last year, above Wall Street’s expectations.

Addressing the notion that the Fed should have been more prescient about inflation, Krosby said it’s hard to believe the data points could have caught central banks so off guard.

“You get something that just doesn’t hit, that they didn’t see it before the blackout,” she said, referring to the period before Federal Open Market Committee meetings, when members are banned from addressing the public.

“You could applaud them for moving quickly without waiting six weeks [until the next meeting]. But then you go back to, if it was so terrible you can’t wait six weeks, how come you didn’t see it before Friday?” Krosby added. “That’s the assessment of the market at this point.”

Fed Chair Jerome Powell did himself no favors at Wednesday’s news conference when he insisted that “there is no sign of a broader slowdown that I can see in the economy.”

On Friday, an economic model from the New York Fed pointed to high inflation of 3.8% in 2022 and negative GDP growth in 2022 and 2023, respectively at -0.6% and -0.5%.

The market didn’t like Fed stocks, with the Dow Jones Industrial Average shedding 4.8% on the week to drop below 30,000 for the first time since January 2021 and wiping out all gains made since Chairman Joe Biden took office.

Why the market moves in a certain way in a given week is often anyone’s guess. But at least some of the damage appears to have come from impatience with the Fed.

The need to dare

While the 75 basis point move was the biggest increase in a meeting since 1994, there is a feeling among investors and business leaders that the approach still smacks of incrementalism.

After all, bond markets have already priced in hundreds of basis points from the Fed’s tightening, with the 2-year yield rising about 2.4 percentage points to its highest level since 2007. between 1.5% and 1.75% , well behind even the six-month Treasury bill.

So why not just go big?

“The Fed will have to raise rates much higher than they are now,” said Lewis Black, CEO of Almonty Industries, a Toronto-based global miner of tungsten, a heavy metal used in a multitude of products. “They’re going to have to start getting into the high digits to nip this in the bud, because if they don’t, if it actually happens, it’s going to be very problematic, especially for those with at least.”

Black sees the impact of inflation up close, beyond what it will cost his business to capital.

He expects workers at his mines, mainly based in Spain, Portugal and South Korea, will start demanding more money. That’s because many of them have taken advantage of easily accessible mortgages in Europe and will now have higher housing costs as well as sharp increases in the daily cost of living.

In retrospect, Black thinks the Fed should have started up last summer. But he sees finger-pointing as useless at this point.

“Ultimately, we should stop looking for who the culprit is. There was no choice. This was the best strategy they thought they had for dealing with Covid,” he said. “They know what has to be done. I don’t think you can say with the amount of money in circulation that they can just say, ‘Let’s raise 75 basis points and see what happens.’ It’s not going to be enough, it’s not going to slow you down. What you need now is to avoid recession.”

What happens now

Powell has said repeatedly that he thinks the Fed can manage its way through the minefield, most notably joking in May that he thinks the economy could have a “soft or soft” landing.

But with GDP teetering on a second straight quarter of negative growth, the market is having its doubts, and there is some feeling that the Fed should just acknowledge the painful path ahead.

“Since we’re already in a recession, the Fed could go bankrupt and give up the soft landing. I think that’s what investors now expect for the short term,” said Mitchell Goldberg, president of ClientFirst Strategy.

“We could argue that the Fed has gone too far. We could argue that too much money has been handed out. It is what it is, and now we have to fix it. We have to look ahead now,” he added. “The Fed is way behind the inflation curve. They need to act quickly and aggressively, and that’s what they’re doing.”

While the S&P 500 and Nasdaq are down – more than 20% below their latest highs – Goldberg said investors shouldn’t despair too much.

He said the current market rush will be over, and investors who keep their heads up and stick to their long-term goals will bounce back.

“People had this feeling of invincibility, that the Fed would come to the rescue,” Goldberg said. “Every new bear market and recession seems to be the worst in history and that things will never be good again. So we come out of each one with a new set of stock market winners and a new set of winning sectors in the economy. It always happens.” .”

Leave a Reply

%d bloggers like this: