You probably remember the line. George HW Bush delivered the infamous line at the Republican National Convention on August 18, 1988. His message was aimed at Democrats (who took control of the Senate and retained control of the House after the midterm elections mandate of 1986).
Don’t test me, Bush warned. I tell you in no uncertain terms where I stand today and where I will be in the future. Believe me when I to say:
My opponent will not rule out raising taxes, but I will, and Congress will push me to raise taxes and I will say no. And they’ll push, and I’ll say no. And they’ll push again, and I’ll say, ‘Read my lips. No new taxes.’
In the summer of 1990, President Bush was hugging a fiscal package that included tax increases. So much for fiscal rhetoric.
Today, all ears are on Powell & Co. as financial markets continue to discount the Fed’s commitment to keep interest rates higher for longer. While markets expect the terminal rate to do so summit before the Fed anticipates and for the Fed to begin cutting rates during the second half of the year, Fed officials have increased their hawkish messages.
Just yesterday, Minneapolis Fed President Neel Kashkari he wrote about why he thinks the Fed’s models failed to capture the inflationary dynamics that led to the initial rise in prices and what he thinks the Fed needs to do now.
While I think it is too early to definitively declare that inflation has peaked, we are seeing more and more evidence that it may have. In my opinion, however, it will be appropriate to continue raise rates at least in the next few meetings until we are sure that inflation has peaked.
Once we get to that point, the second step in our anti-inflation process, as I see it, will stop to let the tightening we’ve already done work its way through the economy. I give us a break at 5.4 percent (see figure), but wherever that endpoint is, we won’t immediately know whether it’s high enough to return inflation to 2 percent within a reasonable time frame. Once we see the full effects of the tougher policy, we can assess whether we need it go higher or simply stay at that peak level longer. To be clear, at this stage any sign of slow progress that keeps inflation high for longer will justify, in my view, the policy rate potentially being much higher.
As many of you know, Kashkari has he turned from being the FOMC’s biggest dove to (arguably) its most hawkish member. To turn an old man around mantrathis Fed is not even thinking about thinking about cutting rates.
I heard one a couple of hours ago interview with Kansas City Fed President Esther George. He’s retiring this month, so he won’t be casting any more votes, but here’s my quick and dirty summary (not a transcript) of his conversation with CNBC’s Steve Liesman.
SL: Markets vs Fed. Worried that financial markets are pricing in rate cuts?
FOR EXAMPLE: High inflation will require continued action. We recently changed our inflation forecast higher. The Fed will remain strong until we have confidence that inflation is coming down.
SL: OK, but the markets aren’t listening.
FOR EXAMPLE: I see the fed funds rate staying above 5 percent for some time.
SL: What would you need to see to convince yourself that you have done enough and that inflation is moving back towards target?
FOR EXAMPLE: Where we really see the persistence of inflation is in non-housing services. We hold the course until we are convinced that it is going down.
SL: Is it well into 2024?
FOR EXAMPLE: It’s for me
SL: Can we avoid the recession?
FOR EXAMPLE: I’m not predicting a recession, but we should be realistic that a sustained period of below-trend growth, which the Fed is aiming for, doesn’t leave much room for error. Reduce demand increasing the possibility of recession.
SL: How concerned are you that the economy is vulnerable to a shock that could lead to a recession?
FOR EXAMPLE: The global outlook poses some risk for the US.
SL: Some say you are ignoring trends that inflation is coming down. Critics say the Fed is too focused on lagging indicators and not paying attention to the matching and leading indicators that seem to tell us we’ve already won the fight against inflation.
FOR EXAMPLE: There is still a lot of money on household balance sheets. If they hold onto that money, it will be easier to reduce inflation. If they spend it, it will be harder for us to recover from inflation.
SL: Discuss the Fed’s plans for balance sheet reduction.
FOR EXAMPLE: It is important that the committee continues with quantitative tightening. We didn’t get very far the last time we tried to undo the balance. We have moved to a “broad booking regime”, but this time we need to put the duration back on the market
SL: Was QE a mistake?
FOR EXAMPLE: We have experienced and still have much to learn about the consequences of making large-scale asset purchases.
SL: Did the Fed offer too much accommodation?
FOR EXAMPLE: It is not clear.
SL: Just because inflation went up doesn’t mean you did too much?
FOR EXAMPLE: No. There was also a prosecutor.
SL: Should you have answered the prosecutor?
FOR EXAMPLE: possibly It’s an open question. Maybe we’ll learn that we should have leaned on it.
SL: Are you worried about financial stability?
FOR EXAMPLE: You always have to be. But, I’m not worried that we’re about to blow something up. But you have to think about the scope implications for QE performance
SL: What advice do you have for your surrogate?
FOR EXAMPLE: Represent the interests of your district and try to do a good job.
I will be speaking at the Financial Planning Association of Greater Kansas City in a couple of weeks. How have I been arguing for months, my own view is that the risk of further rate hikes far outweighs any perceived benefit. But, as I wrote in September, rate hikes will continue until morale improves.
While the Federal Reserve Bank of San Francisco sees little sign of demand-driven inflation in the system, Kashkari and the other voting members of the FOMC seem poised to make good on their rhetoric. They are focused on wage growth and are willing to trigger a recession if that is what it takes to restore (still) weaker nominal wage growth.
This is a determined Fed.
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