I didn't like the intro I had for this article, so I asked ChatGPT to make it more exciting. The output has nothing to do with what I discuss, but I was entertained enough to include it below. So enjoy.
Within the sacred chambers of the Federal Reserve, a pivotal gathering took place on June 14th, where the nation’s economic destiny hung in the balance. The esteemed members of the Federal Open Market Committee (FOMC) convened to dissect the current state and trajectory of the United States economy, as well as deliberate on the crucial policy actions to be taken. However, a haunting message from Chairman Jerome Powell has sent shockwaves through the financial world, casting a shadow of concern over the horizon. As the echoes of his words reverberate, a sense of unease lingers in the air, reminding us of the far-reaching implications that these policy decisions hold. Join us as we delve deep into the intricacies of Chairman Powell’s message, exploring its implications, and seeking to unravel the complexities of our economic future.
What Changed Since the Last Meeting
At each FOMC meeting, the Fed releases a statement summarizing where they believe the economy stands.
CNBC tracks the current statement versus the prior to identify what has changed in the Fed's message.
The most recent message was mostly the same; the only real change was that they paused rate hikes for the time being to assess the previous hikes.
Luckily, Powell gives a speech to reporters after each meeting, where he also has to field questions that provide greater insight into where the Fed policy and economy stand.
From the event, there were several key takeaways.
Inflation and Interest Rates
Over the past two years, the most prominent topics around the economy have been inflation and interest rates. And this meeting was no different, as inflation and interest rates dominated almost all the questions and responses.
But before even addressing questions, Powell's opening remarks emphasized that the Fed's fight against inflation is its top priority.
After seeing significantly elevated inflation levels last year, price growth has slowed. Unfortunately, it is still above the Fed's target of 2%, and the expectation is that while it will keep going down, it will not be in line with their target until 2025.
Powell acknowledged reducing inflation is a challenging task that will likely require below-trend economic growth and changes in labor market conditions.
The primary tool the Fed uses to control inflation is raising interest rates. In this meeting, the committee decided to leave policy interest rates unchanged. But the decision to pause hikes was only for this meeting, not the next or future meetings. The Fed has not yet made up its mind on what it will do next meeting.
However, they shared their expectations for two more hikes by the end of this year. The expected interest rate at the end of each year are:
2023, 5.6%
2024, 4.6%
2025, 3.4%
The pause in hikes is because the tightening effects have yet to be fully felt. There is a lag between when the hikes are implemented and the impact.
While that information is helpful, I was disappointed Powell did not share more on the health of the consumer or on the security holdings of the Federal Reserve (i.e., its balance sheet).
The Consumer and Security Holdings
The two goals of the Federal Reserve are price stability and maximum employment. Yet that is not the current case; price stability, aka controlling inflation, is taking priority over maximum employment.
Powell made two significant remarks. First, the Fed will do whatever it takes to get inflation down to 2%. Second, he believes disinflation will come from the labor market. The current labor market is the strongest it's been in 50 years, but don't expect that to last.
May's latest unemployment rate reading was at 3.7%, up from 3.4% in April. The committee expects unemployment levels of 4.1% by the end of 2023 and 4.5% by the end of 2024. We've had levels below 4% since January 2022.
There are already signs that the supply and demand in the labor market are coming into better balance, as job vacancies have declined.
The consumer may start to feel stretched as unemployment increases and debt and delinquencies also increase.
Another significant economic point is the Fed's security holdings. Over recent weeks, they have been reduced much slower than before. The Fed may be anticipating tighter credit conditions and thus not be reducing holdings as much.
The potential headwinds from the credit tightening may harm both consumers and businesses.
However, I did get a laugh from Powell when he said they have "reduced security holdings at a brisk pace." To me, brisk means quick. And at the rate we are reducing, it will take a decade to get to pre-pandemic levels, although I'd bet good money we never actually get back to those levels.
Final Thoughts
There are several warning signs that don't amount too much on their own, but when they all align indicate a recession is near.
Extremely low unemployment that quickly increases
When the Federal Reserve pauses / ends rate hikes
Time will tell if other warning signs turn sour.
The stock market and the economy are separated from one another. Personally, I think the stock market is due for a pullback.
I also anticipate the economy going through a tough patch in the near future. Hopefully, I'm wrong and Powell orchestrates the soft landing none of us believed he could pull off.
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