Federal Reserve Chair Jay Powell wrote the script for the September FOMC meeting at last month’s Jackson Hole Conference, a matter we discussed in the note Pace over Timing.

  • The Federal Reserve held steady its target for overnight rates to a range of 0 – 0.25%, as it has for about 18 months
  • It looks like policymakers are waiting for the financial markets to beg them to taper bond buys before actually embarking
  • There were indications in the statement that the FOMC will announce a $5 billion - $10 billion/month taper at the Nov. meeting
  • For now, bond buying will continue at the current $120 billion/month pace ($80 billion USTs plus $40 billion MBS) 

In other words, official projections are calling into question Flexible Average Inflation Targeting, FAIT. In response, the yield curve violently flattened, with front-end yields rising slightly and long-end yields falling to their lowest since February. We all knew the Fed would not hike rates or reduce bond buys this meeting—and they did not. The real question at the July FOMC meeting is not about taper timing (as headlines would have you believe), but rather about how aggressively Powell should defend FAIT in his comments.

Economic data since the Fed last met was generally firmer, though directionally in line with recent trends. The June employment report bested expectations with +850K in payroll gains, the best showing since the post-lockdown bounce last August. Retail sales have firmed up even further and are running at a +11% yearly change. Perhaps most importantly, however, the monthly inflation numbers remained very perky, with June’s core CPI rising +0.9%, well above expected. A good piece of the increased monthly inflation numbers represent the triumph of rising demand for goods and services against a backdrop of constrained supply, but in particular, shelter expenditures seem to have some upside risk. Given that housing costs represent about a third of various inflation measures, even a 3% trend inflation rate in housing means that core inflation will exceed the 2% mark in 2022, absent an aggregate supply response that holds prices of other goods and services down. That latter hypothetical is possible given how unpredictable inflation dynamics are right now, though it does not intuitively seem likely

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About the author

Guy LeBas

Director, Custom Fixed Income Solutions

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