Fed Watch: FOMC Minutes Show Central Bank More Hawkish Than Expected

A hawkish turn by Federal Reserve policymakers, disclosed in the minutes of their mid-December meeting published last week, led to a market sell-off as the overdue recognition that sustained inflation required fairly urgent Fed action finally hit home.

Making up for lost time, the members of the Federal Open Market Committee not only spoke in favor of accelerated tapering of bond purchases and bringing forward the so-called liftoff of hiking interest rates, but even discussed steps to run off their portfolio by not reinvesting proceeds from maturing securities.

Triple Threat Rattles Markets

Commentators quickly branded this policy tightening as a triple threat, giving investors a scare and leading them to sell both stocks and Treasuries. Some analysts claimed markets had overreacted, but clearly the prospect of waking the sleeping dragon rattled market participants.

Former Treasury Secretary Larry Summers, meanwhile, said on Bloomberg television that he thought people are still underestimating what it will take to rein in inflation.

“My own view is that the Fed and the markets are still not recognizing what’s likely to be necessary. The market judgment and Fed’s judgment is that you can somehow contain this inflation without rates ever rising above 2.5% in terms of the fed funds rate.”

Summers warned that the situation may be more fragile than people realize. He added that engineering a soft landing would present a challenge to Fed policymakers as the December jobs report indicated robust demand for labor despite a lower-than-expected gain in jobs and this will keep inflationary pressure high.

Hedge fund manager Ray Dalio is also skeptical about the Fed’s ability to raise interest rates enough to compensate for inflation. In an interview with CNBC, he warned that political divisions alone will limit what the Fed can do as the atmosphere is already acrimonious even with easy money, meaning negative real interest rates are likely to persist.

“So, the Federal Reserve, I don’t believe even though they’re behind the curve by a lot, I don’t believe they’re going to be able to catch up and make cash and bonds an attractive investment.”

More Fedspeak Ahead

After the vacation break, numerous Fed officials will be speaking this week. Fed Chairman Jerome Powell will appear before the Senate Banking Committee on Tuesday for his confirmation hearing for a second term, and Governor Lael Brainard will testify on Thursday regarding her promotion to vice chairman.

Other FOMC members speaking this week, and perhaps shedding light on Fed intentions, include Loretta Mester, Esther George, Charles Evans, James Bullard, Thomas Barkin, and John Williams, heads of the regional banks in Cleveland, Kansas City, Chicago, St. Louis, Richmond, and New York, respectively.

Even with the Fed behind the curve, as many are coming to believe, it is important to see how close they are to catching up. If it turns out their measured approach is the right one, it is equally important to see what they are thinking.

Then there is the issue of President Joe Biden’s filling out the Fed board of governors with a slate of three nominees likely to tilt progressive. Reuters reported that the nominations could have come as early as last week, cautioning that snowstorms in Washington could delay an announcement the White House hopes to mark with an in-person event.

As it happened, the federal government was closed on Friday due to another blanketing of snow after several inches fell earlier in the week. So maybe this week.