You know those sunny, beautiful days when everyone is scrambling to the grocery store because they know a blizzard is coming? That's exactly how markets feel right now. On the surface, everything looks great: inflation is receding, jobs and GDP are growing, even jobless claims are pretty low still. But the forecast says a massive storm is coming.
Leading indicators look pretty bad. The deeply inverted yield curves (notably, the 3-month/10-year) are a huge warning sign. But it can often take several months to a year for the downturn to fully set in. The Fed knows this. Markets know this. So why isn't the Fed acknowledging it? If their policy affects the economy with a 12-to-18 month lag, shouldn't they be way more focused on forward-looking data than anybody else? Instead, we get a lot of talk of how "employment is still holding up" and "we are committed to hiking rates over 5%."
It all leaves the Fed, as Steve Liesman was saying yesterday, sounding pretty tone-deaf right now. Can't one of them get up there and just address the issue plainly? Either (a), "Here's why we are so certain we'll avoid a big downturn," or (b), "We agree the downturn is coming but here's why we are hiking rates anyway." If they think markets are wrong, or that the looming soft patch is no big deal, or that inflation will be persistent even through and beyond a recession--which is possible!--I would at least like to hear that story.
Perhaps Fed officials don't want to "talk us into a recession," which is an annoying idea that crops up every time we are at a business cycle turning point. But Main Street doesn't pay attention to them, and Wall Street, which actually does hang on their every utterance, isn't hearing anything of relevance. Their hesitance to delve into any of these issues is instead creating its own confusion, and undermining investors' confidence.
Both ISM (manufacturing and services) reports, for instance, fell into contraction last month, below 50. "In 25 of the 26 prior months that both indices were below 50, the U.S. economy was either in or three months removed from recession," as Bespoke noted yesterday.
Perhaps last month was a just a freezing weather fluke? Perhaps. But let's hear the debate. It wouldn't explain why the 3-month/10-year yield curve is its most inverted ever. Perhaps the Fed wants a deep recession because they think only that will cure inflation? perhaps, but let's hear the debate. They, of all people, could persuade markets if they will just explain why they are really still committed to hiking rates, even taking the forward-looking data into account.
I would even love to hear them get into a whole thing about which forward-looking gauges they find trustworthy, and which not! How about a historical comparison of the behavior of leading economic data now, versus past business cycles? Or an analysis of the best moment for the Fed to "bend" to markets in order to stave off a downturn. Ben Bernanke thought he pulled this off in the mid-2000s. Is that example relevant now? Or does inflation change their reaction function?
Until or unless they address the issue square on, the markets will go on ignoring them and the rest of us will be left wondering if they could or should have done more to avoid big a downturn.
See you at 1 p.m!
Kelly