Thoughts on the Fed Minutes

Are we seeing a"Fed Pivot" anytime soon?

There seems to be conflicting messages on what the FOMC Meeting Minutes conveyed this time around. There was plenty of online banter suggesting that there was an indication of Fed Pivot.

Here’s my take on the FOMC Meeting Minutes.

Right off the bat, I felt the minutes conveyed a very balanced, muted tone. Hence, the debate as to whether they were hawkish or dovish. I felt that this time, the minutes conveyed a more realistic picture of what’s going and I’m glad to see that the Fed is paying attention to a number of data points that the seemed to downplay before.

For one, the minutes discussed the economy slowing and that as a part of Fed policy to slow aggregate demand, consumer spending is declining and will continue to do so.

They also discussed the slowdown in manufacturing, industrial production, and housing data implying that they are fully cognizant of tightening into a slowdown i.e., the perfect for a recession.

While they still maintained that the labor market is tight, they noted that

indicators of spending and production pointed to less underlying strength in economic activity than was suggested by indicators of labor market activity. With employment growth still strong, the weakening spending data implied unusually large negative readings on labor productivity growth for the year so far.

The document discusses that Fed tightening takes effect with a time lag and they believe this will start to reduce inflation. However, they also acknowledge that the economy may experience an elevated level of inflation for longer. More specifically, they said “uncomfortably high for some time”.

Given the elevated inflation, they agreed that “moving to a restrictive stance of the policy rate in the near term would also be appropriate”.

They also noted that “the rate of price increase could well pick up further in the short run, with sizable additional increases in residential expenses being especially likely.” This is an interesting development as they’re now acknowledging that shelter inflation could remain sticky to the upside and that they may not be able to tame inflation in all areas, as quickly as they hoped.

They also noted that “supply bottlenecks were continuing to contribute to price pressures”. They don’t see supply constraints easing very soon.

Finally, here’s the discussion on the policy rates:

Participants concurred that the pace of policy rate increases and the extent of future policy tightening would depend on the implications of incoming information for the economic outlook and risks to the outlook. Participants judged that, as the stance of monetary policy tightened further, it likely would become appropriate at some point to slow the pace of policy rate increases while assessing the effects of cumulative policy adjustments on economic activity and inflation. Some participants indicated that, once the policy rate had reached a sufficiently restrictive level, it likely would be appropriate to maintain that level for some time to ensure that inflation was firmly on a path back to 2 percent.

The bottom line:

The Fed is willing to tighten further until they feel that there’s a meaning deceleration in inflation and they are committed to their 2% target. They will probably decrease the pace, i.e, lower the size of the hikes. The consensus is 50bps for the next meetings followed by 25bps.

However, given their resolve to break inflation, I don’t believe a Fed Pivot is imminent by any means. I firmly believe we see them tightening until the end of the year and quite possibly into Q1, 2023. They may pause at that point to allow the hikes to take effect, given that they believe there’s lag between tightening and the impact on the economy.

Link to Fed Minutes: https://www.federalreserve.gov/monetarypolicy/fomcminutes20220727.htm