Why did so many central bankers decide yesterday was the day to push for higher interest-rates?

via notayesmanseconomics

Yesterday turned out to be quite a significant day for prospects for interest-rates. Whilst I was typing a post about the Bank of England hinting at another 0.25% rise next month there was something more significant internationally going on the other side of what we call the pond.

The U.S. economy is growing strongly, with a labor market that has brought employment close to its long-term rate. But inflation remains too high, so I will explain why I believe further tightening of monetary policy will be needed, sooner rather than later, to return inflation to a path that will reach 2 percent in the medium term.

That was from Federal Reserve Governor Christopher Waller and as you can see via the “sooner rather than later” we are again being directed at next month. Oh and whilst he was of course talking about the US he was doing so at Kings College London. Later in his speech he ramped up the rhetoric.

Inconveniently for today’s event, we will get consumer price index (CPI) inflation for October in a few hours. While I am hoping for an improvement over September, even if this occurs, I would still support a 25 basis point increase in the FOMC’s policy rate at our December meeting. However, if inflation comes in substantially higher than I expect, more robust action by the FOMC may be called for.

So now a 0.5% vote by him was in play especially as we later saw this.

The Consumer Price Index for All Urban Consumers (CPI-U) increased 0.4 percent on a seasonally adjusted basis in October 
after rising 0.6 percent in September, the U.S. Bureau of Labor Statistics reported today. 

The index for all items less food and energy rose 0.3 percent in October, as it did in September and August.

This just clattered straight into his description.

Let’s just say it. September’s inflation data were bad. There was no silver lining. Inflation based on personal consumption expenditures (PCE), the measure targeted by the FOMC, rose at a monthly rate of 0.5 percent in September and 3.7 percent over the previous 12 months. Core PCE inflation, excluding food and energy prices, rose 0.3 percent in September and 3.1 percent from that time last year. Both these measures are too high, and I am particularly concerned about the breadth of price increases.

So we were on 0.5% watch the moment the CPI figures were released and US bond yields of which more later moved sharply.

What about lower energy prices?

This got addressed in the questions and thank you to the Wall Street Journal for the transcript.

And I wondered how sensitive the committee were to the recent changes in the Brent price. We were at $118 per barrel a couple of weeks ago. When I left my desk this morning, we were $90?

To which Governor Waller replied.

I just don’t see diesel coming down dramatically because more oil’s coming out of the Gulf. You got to have refining capacity and that stuff’s been seriously damaged around the world and isn’t going to come back soon. So you can’t just look at the price of a barrel of oil. It’s like what do you do with the oil and how is that stuff all being affected?

So as this point rather Fleetwood Mac.

(Chain, keep us together) Run in the shadow
(Chain, keep us together) Runnin’ in the shadow
(Chain, keep us together) Runnin’ in the shadow

A clear problem with his thinking

Let me be clear and I mean the real world version of that I thought this was nonsense when I first heard it and the emphasis is mine.

At our most recent meeting, I supported the FOMC majority in holding monetary policy at its current setting. As I said in a speech a couple weeks before then, my rationale was that the Committee’s communication about the likely tightening of policy had already led financial markets to price in some tightening.² When this communication is clear and credible, what really matters is that those hikes are eventually carried out—it is not necessary, for example, to raise rates at consecutive meetings.

As monetary policy has long lags of the order of 18 months or so to fully work then the logical reaction function is to act as early as you can. Relying on markets to do the work for you may be what has prompted this with bond yields falling.But even worse his explanation about the issue with diesel means it was even more important to have acted last month.Sometimes you really could not make it up. In another form we are back to these people believing that words are more important than actions.

Governor Lorie Logan

Th Governor of the Dallas Fed added to the atmosphere with this from Houston.

Excess inflation is unacceptable. It hurts families, businesses, taxpayers and the American economy. Congress charged the FOMC with delivering price stability as well as maximum employment. We must fulfill this responsibility.

Later she got onto what this now means for her vote on interest-rates.

I currently estimate that the fed funds target range is at least 50 basis points—half a percentage point—below the level that would create some modest restriction and begin to bring the inflation trend back to target.

Again it is really rather awkward for this reality.

After raising the fed funds target range by 25 basis points in September, the FOMC skipped an increase at our October meeting.

As she twists and turns we get a confession about the equity market put option or if you prefer a version of the plunge protection team.

Financial markets had been volatile in the weeks before the meeting in response to news on the technology investment outlook and geopolitical developments. In such an environment, adjusting policy more gradually can help households, businesses and market participants adapt to higher rates.

She is aware that you should act early as you can see.

As I mentioned at the outset, inflation has now exceeded the Fed’s target for nearly six years. But because monetary policy takes time to affect the economy, what matters for policy decisions today is where inflation is going, not where it’s been.

There is a confession of failure in there as well as it being clear who wins in a choice between equity markets and inflation.

Also those of you who feel in the end they respond to wages growth will have a wry smile at this.

This CEO grew up working class. He knows what rising gas and grocery bills can do to a family. So, he leans toward raising pay in 2027 to offset the inflation in 2026…….An approach like this CEO described could take some pressure off workers. But if it became widespread, the FOMC would have to slow the economy more to bring inflation back to target. The FOMC should not take that risk.

Comment

As you can see the combination of those two speeches plus a relatively hot CPI inflation release was likely to have an impact and it did.

UST 2s back above 4.60% and curve under pressure…….Dec pricing 29 bps. (@fullcarry)

So we now expect a 0.25% increase in US interest-rates with some betting on 0.5%. This meant that the US ten-year yield went back to 5% and this morning the two-year has risen to 4.75%. This has pulled international bond yields up with it as for example those looking for a UK fixed-rate mortgage are now facing a five-year yield around 0.1% higher.

So trying to fly monetary policy via bond yields has hit a fork in the road. Also what will Fed Chair Kevin Warsh do? After all the phone lines from President Trump will no doubt have turned rather hot.