by Greg Valliere, AGF Management Ltd.
Insights and Market Perspectives
July 23, 2021
The Federal Reserve’s Enormous Wild Card
July 23, 2021
THE FED WILL BEGIN SERIOUS DEBATE NEXT WEEK on tapering its asset purchases, which is no surprise since the economy is rebounding. But the timing and pace of this tapering is now greatly complicated by the highly contagious delta variant, which most experts believe will not peak until September or October.
THERE’S STILL NO WORD from the White House or the CDC on whether there will be new “messaging” on masks, injections for young people, booster shots, etc. But the steady drumbeat of Covid scare stories in the media may inhibit people and cool the economy. Numbers like yesterday’s jobless claims indicate that the economy may not be totally out of the woods.
SO WE BELIEVE DOVISH JEROME POWELL is in no rush to taper. According to an article in this morning’s Wall Street Journal, some Fed officials have discussed concluding the asset purchases around October 2022 so they could lift rates by late next year if conditions warrant.
IN THIS HIGHLY POLITICIZED CITY, there’s a sense that the Democrats could be vulnerable in the 2022 elections if inflation is still well above the Fed’s target of 2%-plus, excluding food and fuel, for personal consumption expenditures. (We think crime will be a bigger issue than inflation in the 2022 elections).
POWELL’S HAND IS STRONG: He’s widely respected on Capitol Hill, on Main Street, and in the markets. Reports earlier this week indicated that he’s the odds-on favorite to win re-nomination for another term as Chairman, starting in late February. He has detractors among progressives like Elizabeth Warren, but there’s not enough resistance to make much of a difference.
THERE’S VIRTUALLY NO CHANCE THAT POWELL would agree to a decision on tapering at at next week’s FOMC policy meeting. A more public airing of options could come at the Fed’s Aug. 26-28 Jackson Hole symposium. When the FOMC meets at the Sept. 21-22 session, it’s possible that the Fed could be close to a decision to begin tapering by late this year.
WE THINK THE TAPERING COULD TAKE UP TO A YEAR to complete, as the central bankers gradually reduce asset purchases amid a mixed economic outlook. The key, in our opinion, is not the supply of goods; bottlenecks will subside. The key is the labor market and wage pressure, which can be intractable.
IN ANY EVENT, a year from today the federal funds rate will still be virtually zero and Powell will still be Chairman. What no one knows is whether Covid variants will be eliminated by then; our fear is that the Covid threat will not subside any time soon — an enormous wild card for the Fed.
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This post was first published at the AGF Perspectives Blog.