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A Fed Policy Mistake Would Be To Stay Loose Relative To Markets

Courtesy of ZeroHedge View original post here.

By Ven Ram, Bloomberg Markets Live commentator and report

When you get asked what a policy mistake looks like even before the benchmark funds rate has risen once in the current cycle, it is a telling reflection of how far the Fed is behind the curve.

Since April last year, the Fed has watched inflation run higher and higher. Front-end yields were patient too, then, given the monetary authority’s inflation-targeting framework. As the price footprints began getting stronger and stronger, the Fed kept dismissing it as transitory on a reasoning that inflation failed to really uncork above 2% in the longest post-war expansion before the pandemic struck, with the implicit suggestion being there is no reason to suspect this time would be different. As the prints got progressively worse, we heard the “this too shall pass” -- transitory — mantra for a while. And through all of it, the monetary authority kept flying on auto pilot, continuing to purchase bonds. That was the modern-day equivalent of Nero fiddling while Rome was burning. By the time the Fed had buried its transitory refrain, it was already too late.

In contrast, two-year yields saw the writing on the wall as far back as August and began climbing. Since then that segment has added some 130 basis points to its yield. And yet we are here, with the Fed probably realizing that it’s 10 moves behind against the world’s best chess player and wondering what it must do now: should it raise by 25 basis points in March and take it one step at a time? Or should it go 50 basis points straightaway? And should it convene an emergency meeting and call an immediate end to bond purchases and raise rates simultaneously before its scheduled meeting next month? Just like the permutations and combinations on a chess board may be bewildering, so are the numerous questions looming large before the Fed.

Amid all this, the U.S. jobless rate is 4% — a near-perfect postcard picture of the economy that has only prevailed for minor stretches in history — and we have data after data point show what a robust economy this is. Witness, for instance, how January’s retail-sales print that we got earlier this week was way better than forecast.

What would constitute a policy mistake against this backdrop? With the economy so robust, it would be the Fed dithering and dragging its feet and letting inflation expectations spiral out of control — assuming they haven’t already. As I argued Wednesday, it’s time the Fed showed that it has the courage of conviction to act as urgently when the economy is on the way up as it was on the way down.


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