One of the Fed’s two jobs is to manage inflation around a long-term target (roughly 2.5%). They try to impose price stability into the economy and attempt to manage such by using their lever on short-dated interest rates. Like Novocain, it takes a while to work but eventually it works. Monetary policy does have a lag effect, roughly 12-18 mos. If last year’s story was about how far the Fed got behind inflation versus market expectations, the emerging story of 2023 is that they soon will be declaring “mission accomplished”.
Over the past year, short-dated interest rates have increase by 200-300bps. The UST yield curve was flat a year ago; now it is sharply inverted. Money supply growth a year ago was positive; now it is sharply contracting. Tighter financial conditions have been imposed and those conditions have made great strides in arresting inflation. Core CPI and PCE deflator inflation data both down sharply. The Fed’s job is done with regards to inflation. They can take the rest of the summer off and use their upcoming Jackson Hole summit to declare victory.
PS. Please spare yourself and ignore the surprise Fitch US debt downgrade. The timing is bizarre. Only 12 years late. It was a story in August 2011 but it’s a nonstory in August 2023. The story this week is Apple and AMZN earnings after the close Thursday and Friday’s payroll report. Enjoy the show.
Source: Bloomberg as of August 1, 2023
Richard Barrett
Chief Investment Officer
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