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Cudmore: Yellen Just Made A Big Mistake

Courtesy of ZeroHedge. View original post here.

One of the lingering questions to emerge from yesterday’s FOMC meeting, after Yellen’s “first dovish, then hawkish” statement rocked the dollar and markets, is whether the Fed chair has some more accurate way of forecasting inflation than the rest of market to justify her optimistic outlook, and to explain why the divergence between the Fed’s dot plot and the market’s own FF forecasts is nearly 100%. And, if not, is the Fed about to make another major policy mistake by forecasting a far stronger economy than is possible, culminating with a recession.

According to Bloomberg’s Mark Cudmore, the answer is that while Yellen is desperate to infuse confidence in the market, the Fed, which “hasn’t been correct for seven years”, remains as clueless as ever, which is why the Fed’s hawkishness is actually a signal to buy long-end bonds, which will add to further curve tightening and ultimately precipitate the next recession. 

Put otherwise, “if Yellen had acknowledged that the policy frameworks she and her colleagues have been using since the crisis have all been incorrect, then we might believe she has a chance of now applying a more appropriate framework and has a credible plan to sustainably hit the inflation target. Instead, traders can’t help but feel that no lessons are being learned and will have to raise the probability of a major policy mistake in market pricing. This means that the yield curve will need to flatten further through long-end yields dropping.”

In simple words: the Fed has just brought the next recession that much closer, which shouldn’t come as a surprise.  As we showed before, every Fed tightening akways ends with a recession. The only question is when.

From Marc Cudmore’s latest Macro View.

Fed’s Hawkishness Is Negative for Long-End Yields

It may seem counter-intuitive but the Fed’s optimistic perspective on the U.S. economy makes it more likely that 10-year Treasury yields have more downside.  The problem for Janet Yellen is that the data is there for us all to see: What few inflation pressures did exist are now receding rapidly. By failing to comprehensively address the fact that the committee’s projections are constantly over-optimistic, they further undermine their own credibility.

The Fed hasn’t been correct for seven years. The evidence would suggest their models are broken. Yellen still cites the Phillips curve even though some of her own committee have questioned its validity and it has shown no sign of working as anticipated in recent years.

Temporary factors are cited as the reason for low inflation – for example a decline in mobile phone bills – without acknowledging that the technological innovation frequently behind such factors isn’t a temporary phenomenon.

Technology is also helping drive down external inflationary pressures coming through from commodity prices. And the committee’s models don’t seem to adequately account for demographic disinflationary impulses either.

If Yellen had acknowledged that the policy frameworks she and her colleagues have been using since the crisis have all been incorrect, then we might believe she has a chance of now applying a more appropriate framework and has a credible plan to sustainably hit the inflation target.

Instead, traders can’t help but feel that no lessons are being learned and will have to raise the probability of a major policy mistake in market pricing. This means that the yield curve will need to flatten further through long-end yields dropping.


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