The Breakdown - The Fed’s Powell Is Getting More Hawkish as Market Starts Using the ‘R-Word’

Starting point is 00:00:04 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. The breakdown is sponsored by nexus.io, Arculus, and FtX, and produced and distributed by CoinDesk. What's going on, guys? It is Thursday, March 24th, and today we are talking about why Jerome Powell is getting even more hawkish and asking the question is a recession the only way out. Before we get into that, however, if you were enjoying the breakdown, please go subscribe to it wherever you listen to podcasts, give it five stars, leave a review, or if you want to get deeper into the conversation, come join us in the breakers discord. You can find a link in the show notes or go to bit.ly slash breakdown pod. Also, a disclosure as always, in addition to them being a sponsor of the show, I also work with FTX. So today we are checking in on the macro environment, and of course, in the world that we live in, a big part of that

Starting point is 00:01:06 discussion is necessarily what the Fed is doing, what the Fed is thinking, what the Fed is thinking about thinking about in the future. In fact, we live in this very strange environment where huge, huge parts of the market hang so intensely, not just on the actions the Federal Reserve takes to calibrate monetary policy, but the words that they use to describe where they might take monetary policy. I guess on the one hand, this makes sense. Markets are forward-looking and trying to glean any insight so as to get ahead of those changes. At the same time, it means that in some ways, the Fed's most powerful tool is the tool of self-fulfilling prophecy, of trying to drive markets where they want them to go without even taking the actions that would theoretically make them go there.

Starting point is 00:01:51 Indeed, some, like notably Jeff Snyder, believe that this market influence is the primary power the Fed has, with actual monetary policy being far more ineffectual than we think it to be. Folks like Jeff have a variety of reasons for that, not least of which, is the Eurodollar system and the huge volume of dollar proxies that the Fed has no control over or even really visibility into to say nothing of influence on. Whatever the case is you will have well learned over the last period of Bitcoin and crypto's increasing correlation with traditional markets, the market hangs not just on every Fed action, but on every Powell hint of a future action. Last week, Fed officials raised their key rate from near zero to a range of

Starting point is 00:02:30 0.25 to 0.5%. They forecast that they would carry out six more quarter point rate hikes this year. And if you're thinking, official inflation is just under 8% in rising and we're raising interest rates at a quarter point at a time, what is this really going to do? Well, you're not the only one. In fact, much of the chatter you'll get on Bitcoin, Twitter, and FinTwit is utter skepticism and even incredulity on how disparate the reality of inflation is versus the response of the Fed. Not that it will assuage many of those voices, but this week's Fed's story has definitely been Jerome Powell signaling even more hawkishness than before. In a speech on Monday, he said that if necessary, the Fed would be open to raising rates

Starting point is 00:03:14 more than the 0.25% that is standard, but instead at a half point at a time. He also said they'd be willing to do this at multiple meetings. He said they'd be willing to push rates into, quote, restrictive territory that would limit growth. Quote, we will take the necessary steps to ensure a return to price stability. In particular, if we conclude that it is appropriate to move more aggressively by raising the federal fund rates by more than a quarter point at a meeting or meetings, we will do so. Now again, many of you might still be scoffing at OMG up to a half point. Maybe interest rates will make it to 2% when inflation is at 10%. But you should put this in some amount of recent historical context. The last time the Fed increased its

Starting point is 00:03:55 benchmark rate by a half point was May 2000, more than two decades ago. So this is not something that has a lot of modern Fed precedent. Hilariously, the Fed Watchers have been super focused on microverbia shifts. Goldman Sachs chief economist wrote in an investor note, our best guess is that the shift in wording from steadily in January to expeditiously today is a signal that a 50 basis point rate hike is coming. We now forecast 50 basis point hikes at both the May and June meetings, followed by 25 basis point hikes at the four remaining meetings in the back half of 2022, and three quarterly hikes in 2023, Q1 to Q3. Now, in part, the Fed may be reacting to the market's reaction and the market's skepticism of the soft landing picture they presented last week. They forecast at last

Starting point is 00:04:43 week's meeting that inflation would slow to 2.7% by the end of the year, and that unemployment would fall from 3.8% to 3.5% on continued growth. Basically, no one thinks this soft landing is realistic. Sven Heinrich, Northman Trader on Twitter, says the same people that told you last year that inflation would be transitory are now trying to convince you they can engineer a soft landing. Don't fall for the same parlor trick twice. They know nothing. Remember, their job is to keep confidence up. The Fed will never ever tell you a recession is coming even when it's blatantly obvious. We'll come back to that recession question, that big R word, in just a minute. However, even the more normal part of the market is getting the message that the Fed is going to have to be more aggressive.

Starting point is 00:05:24 Rhee, Deutsche Bank's global head of thematic research wrote, It's increasingly dawning on investors that this is going to be a very different hiking cycle from its predecessor back in 2015. And yesterday Fed Fund's futures moved to price in more than 200 basis points worth of hikes for 2022 for the first time. Nexo is the go-to platform for all things crypto. Invest in the hottest coins out there and start earning risk-free interest of up to 20% APR, paid out daily.

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Starting point is 00:07:34 Master Pando Wu, a trader on Twitter, says, is the third time the charm? When the Fed chair opened his mouth, the market reacted immediately. Last Wednesday, SPX sank 100 points. Yesterday, it dropped 50 points. However, each time the market recovered all lost mid-session. Let's see about the third time. There was even a meme aspect of this. Bloomberg published a headline,

Starting point is 00:07:55 Stocks says inflation hedge is the new catch-all narrative for market rally. Clifford Asniss, the founder of AQR Capital, said, did we really just seamlessly transition from low inflation slash interest rates justify very high stock prices fed model stuff to high inflation slash interest rates justify very high stock prices stories? Really? You can't blink around here. Quibico of FinTwinanon account has something of an explanation, saying, over the past 12 years and intense buy-the-dip muscle memory has developed.

Starting point is 00:08:24 The 2013 tapered tantrum, the 2018, don't worry, J.P. Morgan has some cash lift, Mnuchin Fund, and the March 20 COVID rugpole all reinforced BTFD and it's working. Lots of reasons to think this time is different. Suu, the co-founder of Three Hour's Capital, says, for the people genuinely confused why stocks are getting bought as an inflation hedge, what are you owning instead? Bonds are faring a bit worse than stocks. Mac 10 Suburban Drone quotes the Bloomberg piece, this is now the worst drawdown on record for global bond markets.

Starting point is 00:08:56 This is a global credit crisis in broad daylight and markets are not. not even risk off yet. Charlie Buleo says after the rally in the S&P 500, U.S. bonds are now in a larger drawdown, 7.8% than stocks, 6.3%. Michael Batnik from Rittholz Wealth Management, says stocks and bonds were both in a 10% drawdown for the first time since 2008. Now, of course, really a question here is root causes and what happens next. David Diane, the executive editor at the prospect says, nobody has yet explained to me how slowing down the economy and throwing people out of work, he's going to get grain produced in Ukraine, open up Chinese cities under COVID lockdown, and keep ships from idling in San Pedro Bay. Now, what he's reacting to is the growing idea that a

Starting point is 00:09:39 recession may be the only way to tamp down inflation. Certainly Powell is trying to say that demand has to go down for anything that he and the Fed do to work. Of course, what he's trying not to say is that there aren't a lot of good ways to decrease demand that aren't a general economic slowdown. Nick Timmer Rouse, the chief economics correspondent at Wall Street Journal, writes, Powell is mostly rejecting a monetarist explanation for high inflation of 2021. He focuses on how strong demand, particularly for supply-constrained goods, led to a supply curve that, quote, became essentially vertical. Powell said this was, quote, not a situation where demand grows and grows and outstrips

Starting point is 00:10:16 economic potential in the economy over heats and inflation rises. Demand was really strong. There was a strong fiscal reaction. Demand was very strong. Nobody can deny that. You could not drop that amount of demand into any of our models and produce this kind of inflation without supply side constraints. So here Powell is basically saying, look, you had supply constraints from COVID, you dumped a bunch of money from fiscal on top of that. Of course none of our monetary

Starting point is 00:10:41 models are going to work the way that they're supposed to in that context. So again, many people are saying, play this out. The only way to kill demand is to create a recession. Mac 10 again says, this morning I said there was a two-third chance of 0.25 percent and a one-third chance of 0.5% rate hike in May. This evening, the odds are already reversed. The last time the Fed hiked 0.5% was May 2000. They crushed the dot-com bubble 50% and started a recession. Indeed, many people are just coming straight out and asking if this is the price we have to

Starting point is 00:11:11 pay to get inflation down, particularly with the new factor of Russia's war in the Ukraine, creating even more supply shocks to the global economy. Daniel Moss writes a piece in Bloomberg that says this exactly, is a new global recession the price for punishing Putin. Quote, hanging tough against Vladimir Putin was never going to be cost-free. Energy prices are soaring, firms are pulling out of Russia, and those that stay are at risk of nationalization. There's concern about global food supplies. Recession chatter has started even as the world economy is still mopping up from the last one. It would be

Starting point is 00:11:42 foolish to discount a fresh slump if it isn't already upon us. The R-word was deployed a couple of times Tuesday. International Monetary Fund Managing Director, Kristolina Georgiava, acknowledged risks are growing in a number of countries, and Federal Reserve Bank of Dallas economists warned in a paper that the global economy likely won't be able to avoid a slump, absent a resumption of Russian energy exports this year. Ultimately, that depends on how much pain the U.S. and its partners are prepared to endure to punish the Russian president for his invasion of Ukraine. End quote. Now, of course, the bull view, even the cynical bull view, is that the Fed can't afford to let a recession like that happen. However, as we're seeing with this continued

Starting point is 00:12:20 hawkish turn, they have very little room to maneuver. To give Powell some credit, the seemingly obvious thing here is that monetary policy is only one part of the issue. There has to be some combination of monetary fiscal, industrial policy to really make a dent. And on that front, one interesting thing to keep an eye on is whether the U.S. government takes action to actually shift underlying policies that might be contributing to creating that inflation, particularly in terms of the supply side. I've noticed, for example, a bunch of discussions of past maritime protectionism acts that could be changed in order to help address supply chain issues, issues with ports, etc. The two that I've seen called out most frequently are the

Starting point is 00:12:59 Jones Act from 1920 that requires that the ships transporting people or goods between U.S. ports are built, owned, and operated by U.S. citizens or residents, and the Foreign Dredge Act of 1906 that prohibits any foreign built or chartered ships from dredging in the U.S. Ross Allen, a freelance journalist writes, reminder that the Joan Act impoverishes Puerto Rico, Hawaii, Alaska, and the northeastern U.S., enriching owners of a tiny fleet of inefficient vessels. The Jones Act is the poster child for terrible misguided legislation. Joe Wisenthal from Bloomberg writes about the Foreign Dredge Act, saying it turns out that the most powerful dredging equipment in the United States is just a fraction of the most powerful dredger that they

Starting point is 00:13:37 had in the Suez, for when they had to move the Evergiven. And it's illegal here because of the 1906 law to use non-domestic dredging equipment. Not only is the U.S. behind in dredging equipment, and it turns out, but we also have a scarcity of tugboat capacity in the U.S. If we're serious about investing in our ports, we need serious investment in both dredgers and tugboats. So, are we going after these really discrete important supply chain issues? Well, so far at least it seems a bit more political and the same kind of old playbook. Larry Summers took his fellow Democrats to task for blaming everything on corporate price

Starting point is 00:14:11 gouging rather than trying to address these underlying issues, saying no matter how many times administration officials suggest otherwise it is an economic falsehood to assert that big profit increases following a collision between rising demand and inelastic supply constitute evidence of profiteering or excessive market power. If the administration were serious about competition and shipping, it would suspend the Jones Act. As you can see, going back to that thing that we were just saying. The other approach that seems to be coming up is just offering people more free money. The poster child for this is now Gavin Newsom, the governor of California, who yesterday introduced a new policy proposing $11 billion in relief, including a $9 billion tax refund around gas prices.

Starting point is 00:14:53 Basically, the idea is that they will give people $400 per registered car, which, if you're keeping track at home, means yes, they are giving people money to deal with the rising price of a commodity that is in short supply. Jerry Brito at Coin Center puts it quite simply. Stimulating demand for supply-constrained gas in order to address. dress high prices. Got it. Travis Kling from Yuki Guy writes, leader of the fifth largest economy in the world, bigger than India and the UK, wants to fix inflation by printing more money. This is why Bitcoin is going to $1 million. I will wrap there on that note. Clearly a lot more to come in the months ahead on these issues. But for now, I want to say thanks again to my sponsors, nexo.io, Arculus and FtX. And thanks to you guys

Starting point is 00:15:44 for listening. Until tomorrow, be safe and take care of each other. Peace. Hey, Breakdown listeners, come join CoinDesk's Consensus 2020, the festival for the decentralized world this June 9th through the 12th in Austin, Texas. This is the only festival showcasing and celebrating all sides of blockchain, crypto ecosystems, Web 3, and the Metaverse, and is designed for crypto-newbies, investors, entrepreneurs, developers, and creators. Don't miss speakers like Kathy Wood, SBC. F, Z, Punk 6529, and Joe Lubin to name just a few. Use code breakdown to get 15% off your pass at coindesk.com

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The Breakdown - The Fed’s Powell Is Getting More Hawkish as Market Starts Using the ‘R-Word’

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