The Breakdown - After Inflation Improvement, a Quiet FOMC

Episode Date: June 14, 2024

The FOMC meeting was without fireworks this week. In spite of the Bank of Canada and the ECB moving to cut rates, the Fed remains focused on staying the course at least for the time being. Enjoying this content? SUBSCRIBE to the Podcast: https://pod.link/1438693620 Watch on YouTube: https://www.youtube.com/nathanielwhittemorecrypto Subscribe to the newsletter: https://breakdown.beehiiv.com/ Join the discussion: https://discord.gg/VrKRrfKCz8 Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW

Welcome back to The Breakdown with me, NLW. It's a daily podcast on Macro, Bitcoin, and the Big Picture Power Shifts remaking our world. What's going on, guys? It is Thursday, June 13th, and today we are catching up on the macro with yesterday's FOMC meeting. Before we get into that, however, if you are enjoying the breakdown, please go subscribe to it, give it a rating, give it a review, or if you want to dive deeper into the conversation, come join us on the Breakers Discord. You can find a link in the show notes or go to bit.ly slash breakdown pod. All right, friends, well, Fed Day got started early with the release of May inflation data first thing in the morning. BLS data showed actually a small downtick in headline CPI, moderating to 3.3% on an annualized basis. Core CPI inflation, which excludes food and energy

prices, also fell slightly to 3.4%. Both readings came in below expectations and contributed to the second straight month of declining inflation. As the Fed might tell you, we're at a place where inflation is still too high and progress too slow, but given that we saw increasing inflation in the first quarter, slow progress is a whole lot better than the alternative. Robert Frick, corporate economists with Navy Federal Credit Union, said, finally, some positive surprises as both headline and core inflation beat forecasts. There was relief at the pump, but unfortunately, home and apartment costs continue to rise and remain the main cause of inflation.

Until those shelter costs begin their long-awaited fall, we won't see major drops in CPI. This comment really highlights some of the issues with recent CPI data. While inflation is slowing, according to BLS methodology, the progress is very uneven. Some segments of the economy still show massive inflation while others are cooling rapidly. Shelter is one of the most troubling segments still moving up at a 5.4% annualized rate. That's a little cooler than the April numbers, and there are huge lags associated with that particular measure. However, this is still acting as a huge blocker to getting inflation down to the Fed's 2% target. Michael Puglizzi has seen your economist at Wells Fargo economics said,

it's falling more slowly than people were hoping for. It moves at a glacial place both up and down. When it comes to what drove numbers down in May, reductions in gasoline prices were a major contributor, with a 3.6% monthly decline. That leaves prices still up 2% compared to last year, but avoiding a summer price spike could be key to getting inflation under wraps. Even food inflation seems to have leveled off.

Food at home is now increasing at a 1% annualized rate, although food away from home is still at a very high 4% rate. Bloomberg economist Anna Wong has been doing some of the most interesting work on checking the assumptions used to construct macro data over the past year. We covered her issues with the jobs report earlier this week, namely that those numbers don't accurately reflect job losses associated with business closure, and in the CPI data, Wong thinks that much of the disinflation is showing up in discretionary items, while household essentials are still running hot.

Teasing out that theory, she tweeted, a theme from May's CPI, price cuts across the board on things consumers can skimp on. Clothes, electronics, personal care, recreation goods and services. Forget OER and primary rents. Let's talk about something more interesting. Men's underwear, or the lack thereof. Biggest price cuts in six months. Meanwhile, men's suits biggest price inflation since spring of 2022. Do men not need to buy underwear with their suits when they go to interviews or into the office? End quote. Another example is motor vehicle insurance, which has surged at a 20% annualized rate, although that is another very laggy segment. That said, inflation in that category did take down slightly for the month, so optimistically, perhaps the price adjustment is over. Although the BLS

might be picking up some price decreases caused by people cutting their budgets on luxury items, that's a little more in the weeds than most analysts wanted to get. Bloomberg opinion columnist Jonathan Levin, for example, instead focused on the big picture writing, there's still a lot of noise in the latest U.S. inflation report, but the things that matter are moving in the right direction. And indeed, that seems to be the main takeaway. Gasoline is moving down, food inflation has stabilized at an acceptable level, and lagged shelter disinflation is slowly being reflected in the data. What's more, this report shows the second straight month of cooling inflation overall, providing evidence that another spike isn't coming through in the data. As for what this means

for the Fed's rate strategy, the consensus seems to be not much. Joseph Lovorna, chief economist at SMBC NICO Security said, you're going to need three more months of very friendly inflation data to cut in September. If they start easing or talking about easing more, I think they're going to complicate their own goals of getting inflation back to 2%. Now, odds of a September rate cut did move up a little on release of the data, but not to a conclusive level. Former Fed President Jim Bullard was pleased to see further progress on inflation, but wants to see a little bit more before forming a view on likely rate policy.

He said, I think this was good news for the committee. They've been looking for a softer report. They got it here. We would need more news going in this direction in order to forge ahead with our easing policy. But it does keep hope alive for those that have been looking for an earlier rate cut. Switching over to the Fed meeting, the FOMC held rate steady as expected. QT is also running at the same slower pace, but went completely unremarked upon. The biggest change came from the quarterly summary of economic projections.

The CEP's dot plot, which summarizes the rate forecasts of FOMC members, showed that the median forecast is for only a single rate cut this year. Last quarter's SEC had three rate cuts penciled in. The spread between forecasts was a little noisy, with four members assuming no rate cuts, six expecting a single cut, and eight still comfortable forecasting two rate cuts. Still, this brings the Fed rates forecast overall below what's currently being priced in in the market. Later, during the press conference, Powell downplayed the importance of SEP forecasts, stating, these projections are not a committee plan or any kind of decision,

as the economy evolves, assessments of the appropriate policy path will adjust. Still, the changes to the SEP indicate the Fed is much less confident in their ability to cut rates than they were earlier in the year. Powell also spoke to the peculiarity of having a major data release during the FOMC meeting. He reinforced that members were briefed on the CPI data and were able to change their forecast. Powell added that, some people do, some people don't, most people don't. I'm not going to get into the specifics. That seemed to imply that at least a few members viewed the CPI report as meaningful enough to change their forecast at the last minute.

The other big change in the SEP was an increase to the longer-term interest rate, moving up from 2.6% to 2.7%. The reason that such a tiny adjustment matters is that it demonstrates a growing recognition that the neutral rate has moved higher at a structural level. While this is mostly a theoretical economic concept, Powell spelled out the implications, stating, I think people are coming to the view that rates are less likely to go down to their pre-pandemic levels, which were very low by recent historical measures. Shifting this longer-term rate up also implies a belief that current policy isn't quite as restrictive as it was thought to be. Overall,

the SEC still forecasts a slow return to 2% inflation, taking until sometime in 2026. Fed officials see a small uptick in unemployment in 2025 along that path, which means on the current path, the FOMC sees rate cuts coming down well in advance of inflation reaching their target. Hello, friends. Before we get back to the rest of the show, I want you to join me at Permissionless. Permissionless is a conference for Cryptonatives by CryptoNatives. And the reason it's so important this year is that despite regulators' best attempts to

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lots of information about how to register, and again, use code breakdown 10 to get 10% off. On the topic of when to expect the first rate cut, Powell was extremely tight-lipped. He suggested that rate cut forecasts had moved back slightly due to a lack of clear progress on inflation, but didn't think a few months' weight was meaningful. Powell simply said, rate cuts that might have taken place this year take place next year. Rate hikes still seem to be off the table, with Powell stating, I think the evidence is pretty clear that policy is restrictive and is having the effects that we would hope for. He refused to rule out rate hikes entirely but said that no one on the FOMC had them as their base case. For a second meeting in a row, Powell drilled in that

the FOMC needs to see more data to provide confidence that inflation is heading in the right direction on a sustainable basis. On that morning CPI print, he said, we see today's report as progress in building confidence, but we don't see ourselves as having the confidence that would warrant beginning to loosen policy at this time. The May inflation number was good enough for the Fed to change the wording in their written statement, however. A lack of further progress was upgraded to modest incremental progress. Powell articulated sufficient confidence as the test of when rate cuts would become appropriate. He didn't want to give a time frame or a target, but said, if you're at 2.6% or 2.7%, that's a really good place to be. This refers to the PCE deflator, the Fed's preferred

measure of inflation. That figure already came in at 2.7% in April and is likely to have ticked down marginally in May. Powell's point seems to be that we're already at an inflation level where rate cuts become appropriate. The FOMC just wants to make sure it stays there before beginning the cutting cycle. The SEP survey showed that members expect a slight uptick in PCE inflation to end the year, which Powell brushed off as members being conservative with their forecasts. Taking the other side of the argument, one reporter asked Powell whether a single rate cut late this year is even meaningful. Powell responded, I think if you look back in five or ten years and try to pull out the significance to the U.S. economy of one 25 basis point rate cut, you'd have quite

a job on your hands. Taking the premise more seriously, Powell explained his belief that the entire rate path matters, not just the timing of the first cut. He added, I continue to think that when we do start to loosen policy, that will show up in a significant loosening of financial market conditions, and the market will price in what it prices in. It's a consequential decision for the economy, and you want to get it right. It's generally believed that once the rate cut starts, the market will try to price in the entire cutting cycle as fast as possible. Once that happens, it will make any lingering inflation fight that much harder. The thinking seems to be that it's better to carefully consider the timing of the first cut, because once it happens, it will be impossible

to put the genie back in the bottle. When it comes to the labor market, Powell characterized it as very strong, but not at the superheated level of two years ago. He noted that labor supply and demand are continuing to come into better balance, although he did point out that additional labor supply is now mostly coming via high levels of immigration. While unemployment has been ticking up slightly over most of this year, Powell reinforced that 4% unemployment is still historically low. Powell was asked specifically about divergences in labor market data, with the establishment survey showing strong payroll gains while the household survey shows alarming high job loss. He acknowledged that when it comes to high additional payrolls, there is a, quote,

argument that they may be a bit overstated. Powell explained that the Fed is looking at the data as a series stretching over multiple months, but conceded, quote, were left with ambiguous results, and we have to deal with that uncertainty around data. His assertion, though, was that any way you slice it, the data still shows a strong labor market. Aside from confidence that inflation is moderating, the other trigger for rate cuts is labor market weakness. The SEP forecast currently has unemployment holding steady for this year and reaching 4.2% next year. The concern is that a small uptick in unemployment can quickly snowball. With Powell adding, the labor market has the tendency sometimes to weaken quickly. We completely understand that that's the risk, and that's not that

that's not our plan to wait for things to break and then try to fix them. In terms of other conversations, there was an interesting comment about wages, which have cooled but are still rising at a relatively fast rate. Powell said, we haven't thought of wages as being the principal cause of inflation, but at the same time, getting back to 2% inflation is likely to require returning to a more sustainable level. Throughout this period of inflation, Powell has discredited traditional economic theory that high wage growth drives inflation. This statement that he made seems to suggest a little softening on that view, not so much that wage growth drove inflation over the past two years, but rather that wage growth might need to be suppressed to achieve the final mile in the inflation fight.

Powell was presented with a question that has been puzzling Democrat pundits. If growth is strong and unemployment is low, why do people hate this economy? He responded, I don't think anyone has a definitive answer why people are not as happy about the economy as they might be, and we don't tell people how they should think or feel about the economy. That's not our job. You know, people experience what they experience. All I can tell you is what the data show, which is we've got an economy that's growing at a solid pace. Overall, Powell reiterated that the Fed views its current policy as appropriately restrictive and is prepared to hold steady for as long as necessary. It seems that the Fed is now in a reactive mode. They've signaled clearly that rate cuts

are on the table, but they're not going to cut rates without a clear reason to do so. Powell spoke about this in terms of the balance of risks, stating, we know that reducing policy restraint too soon or too much could result in a reversal of the progress that we've seen on inflation. At the same time, reducing policy restraint too late or too little could unduly weaken economic activity and unemployment. The view was that current policy is, quote, well positioned to deal with the risks and uncertainties that we face in pursuing both sides of our dual mandate. Marker response was a little bit all over the place for the day. The cool CPI report gave stocks in Bitcoin a big,

boost, but that sentiment was partially reversed once the dot plot was released, showing only a single rate cut for the year. Bitcoin ended the day basically flat after a round trip, while the S&P 500 in NASDAQ notched modest gains of around 0.8% and 1.3% respectively. Overall, the takeaway was largely that this Fed meeting didn't move the ball. David Russell, global head of market strategy at Trade Station said, this is a nothing-burger Fed meeting. They know conditions are improving, but don't need to rush with rate cuts. The strong economy is letting Jerome Powell ring inflation out of the system without hurting jobs. Goldilocks is emerging, but policymakers don't want to jinx it. Crypto investor Evan SS6 put it a little bit more bluntly, tweeting that Powell was, quote,

repeating the same answers to the same questions for a year straight. If there's anything to be gained from this meeting, it's that doing nothing is actually pretty notable this time around. The Bank of Canada and the ECB have both begun their cutting cycle, and dollar strength continues to put pressure on the Japanese yen. There was some expectation that Powell could come out a little on the doveish side and give some indication of when rate cuts would arrive, and while there wasn't anything particularly hawkish about this press conference, the reduction of rate-cut expectations in the dot plot had essentially done that job for him before he took the stage. This meeting overall seemed like Powell reaffirming that his mandate

is strictly domestic. The Fed is fighting domestic inflation while trying to keep the domestic labor market from deteriorating. Looming recessions in the rest of the world are not his problem. So that is the report from here. We remain in wait and see. But with that in the bags, we can get back to our crypto focus. And for that, I will see you back here tomorrow. Appreciate you listening as always, and until next time, be safe and take care of each other. Peace.