For more than a year, the Fed kept the cost of borrowing at zero, even as inflation hit four times its target rate.
Now, the Fed has finally reoriented its inflation policy toward what is right and not what is easy — to continue its rate hike campaign, with a singular focus on bringing inflation back to its preferred 2% benchmark. The FOMC minutes from its July meeting further corroborated the central bank’s refusal to take as guidance the market’s persistent projection that the Fed will pivot away from quantitative tightening.
The FOMC minutes, released on Wednesday, revealed near-unanimous support for the Fed’s second consecutive rate hike increase of 75 basis points, and that anticipates a half-percentage-point increase come September. To any objective observer, this comes as no surprise, considering the Fed itself concedes in the minutes that “the bulk of the effects [of its rate hike campaign] on real activity had yet to be felt because of lags associated with the transmission of monetary policy.”
But investors are anything but objective. They are also addicted to cheap money, thanks to the Fed’s decadelong experiment in quantitative easing. Desperate for just another fix, they have priced into markets their prayers that the Fed will pivot away from its responsibility to do what is right, not what is easy, just because the inflation rate in July, at a mere 8.5%, was down from its ludicrous June level of 9.1%, a four-decade high.
Luckily, the markets follow the Fed and not the other way around, and despite investor projections, the Fed isn’t basing its inflation policy on investors’ prayers of an about-face.
The Fed wisely anticipated that the recent slide in energy prices would cause a top-line inflation slowdown without reducing inflation for most day-to-day items. “Participants remarked that, although recent declines in gasoline prices would likely help produce lower topline inflation rates in the short term, declines in the prices of oil and some other commodities could not be relied on as providing a basis for sustained lower inflation, as these prices could quickly rebound,” the minutes read. In other words, even if the White House is claiming victory on inflation, the Fed knows better:
Groceries (up 13.1% over the past year) and rent (up more than 6%, according to the BLS, but up 15%, according to Redfin) could still follow oil, but so far, the Fed doesn’t look keen to pivot. While the minutes say the Fed may decelerate monetary tightening, “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.”
Will the Fed’s doves succeed in bullying its (relative) hawks into reversing course? Not likely, especially when you consider that even the most extreme of the doves aren’t feeling so sanguine these days. Just consider that Neel Kashkari, once a champion of the view that inflation was transitory, has declared that we are still “far, far, far away from declaring victory on inflation” and that he hopes interest rates approach 4% by the end of the year.
The Fed, thank goodness, is not buying what delirious investors are selling.
