I appreciate that Jay Powell is no ideologue. His Fed has made some historic missteps, and Powell as Chair has sometimes flailed. But I’m willing to cut him some slack. I hold his predecessors responsible for the Bubble predicament. Greenspan and Bernanke certainly share responsibility for the absolute mess made of contemporary central bank doctrine. No doubt about it, decades of poor analysis, flawed doctrine, bad decisions and obfuscations are coming home to roost on Powell’s watch. The future holds so much uncertainty. One thing seems clear: he’ll be ruthlessly tarred and feathered.
I believe Powell is a good man and wants to do right for the country. At critical junctures, Greenspan and Bernanke consistently veered toward looser and ever more precarious policy courses. Never did I witness the courage necessary to accept the short-term pain necessary to improve long-term outcomes (including reducing the likelihood of catastrophic financial and economic crises).
Monstrous egos put our nation’s wellbeing in jeopardy. When circumstances turned tough, they would resort to BS justification for only more outrageous monetary accommodation. Greenspan and Bernanke were both dangerous ideologues and inflationists that handed the keys to our nation’s future to Wall Street – in the process nurturing a prolonged cycle of runaway monetary inflation, speculative Bubbles, and deep financial and economic maladjustment.
Powell’s Jackson Hole speech was short and powerful. No academic elements with the potential to muddle his message or be misinterpreted. Ideology-free. Powell’s presentation was also notably short on doctrine. No talk of the Fed’s “dual mandate” – not a single mention of “maximum employment.”
Powell: “The Federal Open Market Committee’s (FOMC) overarching focus right now is to bring inflation back down to our 2% goal. Price stability is the responsibility of the Federal Reserve and serves as the bedrock of our economy. Without price stability, the economy does not work for anyone.”
“Restoring price stability will take some time and requires using our tools forcefully to bring demand and supply into better balance. Reducing inflation is likely to require a sustained period of below-trend growth.”
“While higher interest rates, slower growth, and softer labor market conditions will bring down inflation, they will also bring some pain to households and businesses. These are the unfortunate costs of reducing inflation. But a failure to restore price stability would mean far greater pain.”
Markets were anticipating a hawkish Powell. Yet they were clearly uncomfortable with the Fed Chair demonstrating such uncompromising inflation resolve. This was more than lip-service. It was a veritable manifesto. Powell, addressing unavoidable pain for households and businesses, omitted any reference to a market priority: pain avoidance for the financial markets.
Only a month after misjudging a “dovish pivot,” Wall Street confronts a Federal Reserve pivot to unabashed inflation fighter. It will take some real back-peddling to convince me that this wasn’t a momentous inflection point for Monetary policy Management. As a long-time admirer, Powell Friday, in majestic Jackson Hole, resolutely stepped into Paul Volcker’s fly fishing waders.
Importantly, mention of “financial conditions” was MIA. Blacklisted. This is after Powell referred to “financial conditions” 17 times during his May post-FOMC press conference (reduced down to four at last month’s press conference). This omission was not accidental. Using market-based financial conditions as a primary policy reaction function was problematic and, in the end, untenable. Especially with today’s highly speculative and unstable market environment, financial conditions will ebb and flow right along with Fear and Greed – with “Risk Off” and “Risk On.”
While markets over recent decades relished being at the center of the monetary policy-making universe, this framework is ill-suited for the New Cycle’s inflationary backdrop. While not done formally – or with any fanfare – Powell’s speech suggests a momentous shift in monetary policy doctrine. The Fed is fixated on inflation, and deemphasized markets will just have to learn to live with it. Powell is moving the Federal Reserve back toward more traditional central banking.
When Powell (and Fed officials) utters “financial conditions,” market participants smile, nod and think happy “Fed put” thoughts. Since Bernanke in 2013 proclaimed the Fed would “push back” against tightening financial conditions, markets have increasingly believed market backstops were formally ingrained in contemporary central banking doctrine. This was certainly crystallised when the Fed repeatedly ratcheted up stimulus measures until markets reversed higher back in March 2020.
No one believes the “Fed put” has been abandoned, though that’s not the crucial issue. Powell’s Jackson Hole speech confirms the newfound ambiguity of the Federal Reserve’s market backstop. While unspoken, the Fed for years has operated on the basis that it was advantageous to address market instability early – before it had the opportunity to spiral out of control. For the free-market ideologue Greenspan, The Maestro was quick with a subtle little helping hand. All that was required was a well-timed cryptic utterance indicating attentiveness to market concerns. Off to the races. Bernanke’s “push back” comment clearly was to get ahead of developing market tumult. Powell began his term with agitated markets demanding – and receiving – a big dovish pivot.
Powell’s speech can be interpreted as the Fed raising its threshold of acceptable market instability. Especially after witnessing the recent rally briskly cutting 2022 losses in half, I would expect the Fed to be atypically dismissive of the markets’ next bout of “Risk Off.” This could quickly become an issue for the markets.
It is, after all, the second leg lower where already shaken bear market nerves tend to get really rattled. The past two months’ rally has engendered acute vulnerabilities. Market hedges have been unwound or simply expired. A major short squeeze forced the unwind of short positions. And I’ll assume the leveraged speculating community was forced to jump on board the rally. All this creates a marketplace susceptible to weakness spurring abrupt shifts in positioning and hedging strategies, with clear potential to unleash selling-begetting-selling crash dynamics.
“Higher for longer is the new watchword,” Bloomberg quoted Peter Hooper, Deutsche Bank’s global head of economic research. Powell pushed back against market expectations for a loosening of monetary policy in 2023.
Powell: “Restoring price stability will likely require maintaining a restrictive policy stance for some time. The historical record cautions strongly against prematurely loosening policy.”
“In particular, we are drawing on three important lessons. The first lesson is that central banks can and should take responsibility for delivering low and stable inflation… Our responsibility to deliver price stability is unconditional… Fed’s tools work principally on aggregate demand. None of this diminishes the Federal Reserve’s responsibility to carry out our assigned task of achieving price stability.”
“The second lesson is that the public’s expectations about future inflation can play an important role in setting the path of inflation over time… During the 1970s, as inflation climbed, the anticipation of high inflation became entrenched in the economic decision-making of households and businesses… As former Chairman Paul Volcker put it at the height of the Great Inflation in 1979, ‘Inflation feeds in part on itself, so part of the job of returning to a more stable and more productive economy must be to break the grip of inflationary expectations…’”
“That brings me to the third lesson, which is that we must keep at it until the job is done… The successful Volcker disinflation in the early 1980s followed multiple failed attempts to lower inflation over the previous 15 years. A lengthy period of very restrictive monetary policy was ultimately needed to stem the high inflation and start the process of getting inflation down to the low and stable levels that were the norm until the spring of last year. Our aim is to avoid that outcome by acting with resolve now.”
“We will keep at it until we are confident the job is done.”
It was an ominous end to an ominous week. A while back, it became clear that elevated inflation wasn’t transitory. It was as if there was suddenly recognition that even the recent dramatic inflationary spike might not prove transitory either. And the Fed was not the only central bank adjusting to what appears to be a secular shift to highly elevated inflationary risks.
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