By Darrell Delamaide
Investors celebrated what they took as a strong hint from Federal Reserve chair Jay Powell that an interest-rate cut was imminent by pushing U.S. stocks into record territory, with the Nasdaq Composite closing at a record 8202.53, and the S&P 500 crossing the 3000 threshold for the first time before closing at 2993.07.
In fact, Powell’s comments in his twice-yearly testimony before Congress were so definitive that it would be difficult for the Fed to stand pat on rates at its policy meeting at the end of this month without provoking a savage reaction from the markets.
First off, he affirmed that the downward risks facing the economy had not abated since he originally suggested that the Fed might need to cut rates in order to sustain economic growth. Then he answered the question on everybody’s mind as to whether the strong jobs report for June had changed that outlook, with a “straight answer,” namely, “no.”
Powell was dismissive of any consideration that the addition of 225,000 jobs last month made for a hot labor market that would push up prices. “To call something hot, you need to see heat,” he said.
Shift In Inflation View
In fact, the most telling admission from the chairman was that “there is a risk that weak inflation will be even more persistent than we currently anticipate.” Previously Powell had insisted, in the face of all evidence to the contrary, that inflation was running below the Fed’s 2% target (for seven years now) because of transitory factors.
“Many FOMC participants saw that the case for a somewhat more accommodative monetary policy had strengthened,” Powell said, referring to the analysis of incoming data on inflation and the economy at the Federal Open Market Committee meeting last month.
He was virtually quoting the minutes of that meeting, which were also released Wednesday after the usual three-week delay. The minutes said:
“Many judged additional monetary policy accommodation would be warranted in the near term should these recent developments prove to be sustained and continue to weigh on the economic outlook.”
Further Clues Ahead
The release later this week of the consumer price index and producer price index should provide clues about what the personal consumption expenditures index – the inflation measure preferred by the Fed – will show when it is released later this month.
That PCE index generally runs lower than consumer price index so CPI would have to show a significant gain in the direction of 2% to relieve Fed concerns about persistently low inflation. Powell and his colleagues seem to have reasons for thinking this will not be the case.
And To Seal The Deal...
If the Fed needs any argument to seal the deal, the fact that the inverted yield curve passed the 30-session threshold that economists take as heralding a recession should give it to them.
The yield on three-month Treasury bills has exceeded that of the 10-year note for 30 consecutive trading sessions. The difference reached 0.259 percentage points, the most since a 2007 inversion correctly forecast the recession that accompanied the financial crisis.
On top of that, different economic models used by the Fed regional banks in New York and Cleveland show that the odds of a recession in the next 12 months have risen to 1 in 3, also the biggest since 2007.
Growing Pessimism
The minutes of the June meeting indicated that a shift in sentiment regarding the economy might be taking place. While participants in general held to their optimism that growth, jobs and inflation were on a solid path, “Many participants attached significant odds to scenarios with less favorable outcomes.”
Powell will follow up his appearance Wednesday at the House Financial Services Committee with testimony Thursday before the Senate Banking Committee, though the second session rarely produces any market-moving news beyond the first hearing.
House lawmakers were at pains to reassure Powell that they “have got your back” in his dispute with President Donald Trump over monetary policy. But as long as Powell and company are willing to go in the direction Trump wants, that probably won’t be necessary.