The FOMC is planning to meet to determine the fed funds rate on Thursday to give a little space after the election.
The FOMC meeting puts a focus on monetary policy. This more directly affects asset prices since Fed actions (QE/QT/fed funds rate) directly affect banks and only indirectly consumers.
The election will affect fiscal policy (which more directly affects money in people’s pockets and tariffs and thus consumer price inflation). Though the candidates support different policies, both support policies that will increase government deficits and thus inflation. Regardless of the president’s proposed policies, it’s Congress that implements spending and taxes, not the president. However, the president can impose tariffs without Congressional action. That’s all I will say here to avoid political discussion.
This is what we know about the Fed:
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The Fed’s mandate is to maximize employment while controlling inflation at a low, stable rate of their choosing. The Fed’s mandate does not include control of the asset markets (stocks, bonds, real estate) outside of being a lender of last resort during a financial crisis.
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The Fed currently is targeting an inflation rate of 2%. Their metric of choice is the PCE index. (TIPS and I-Bond interest is adjusted to the CPI-U, not the PCE index.) The Cleveland Fed’s Inflation Nowcasting shows that inflation is close to the Fed’s target but may be gradually increasing. This puts a constraint on the Fed’s cutting the fed funds rate rapidly.
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Unlike the past 15 years, the Fed is currently seeking a neutral fed funds rate that will not stimulate or slow the economy. It’s not clear what that neutral rate is. The Fed raised the fed funds rate in 2022-23 to a level that would have been normal before 2001 but is higher than the negative real rates held for the past 15 years. This withdrew monetary crack cocaine from the economy and asset markets but both have remained strong due to unprecedented Covid-related fiscal stimulus.
- Fed officials often stress that their decisions are “data dependent,” meaning they will update their outlook for interest rates as their forecast for the economy changes. Since government metrics are released as soon as possible they are often revised as more data is collected in following weeks. The Fed is aware of this so it doesn’t react on point-in-time data.
The economy may or may not be nearing an inflection point. The Fed recently cut the fed funds rate by 0.5%. The economy grew at a solid 2.8% annualized real rate in the July-to-September quarter. The Atlanta Fed’s GDPNow model estimate for real GDP growth (seasonally adjusted annual rate) in the fourth quarter of 2024 was 2.3 percent on November 1, down from 2.7 percent on October 31. This is still good growth but slowing.
There are other signs of potential slowing from revised data.
Fed Prepares Rate Cut Amid Economic Contradictions
The job market is slowing but consumer spending is strong, posing a riddle for central-bank officials as they reduce interest rates
By Nick Timiraos, The Wall Street Journal, Nov. 3, 2024
Federal Reserve officials are expected to cut interest rates by a quarter percentage point at their meeting Thursday because inflation has continued to make progress toward their 2% goal…
Policymakers face a stubborn economic puzzle that could influence whether they will feel pressure to slow down or speed up rate cuts in the months ahead. The issue: The labor market continues to show signs of cooling, but consumer spending has been solid…
The private sector added just 67,000 jobs a month, on average, for the three months through October, the lowest since the pandemic hit in 2020. …
But revisions to government data after the meeting showed income growth had been stronger than initially reported. As a result, the personal savings rate was revised upward, meaning consumers might not be as tapped out. The revision “removes a downside risk to the economy,” Fed Chair Jerome Powell said at a conference on Sept. 30. “These were very large, healthy revisions.”… [end quote]
The chart below is private sector labor force growth. Economic output continues to grow even as nonfarm employment growth declines.
Consumer spending continues to grow but the critical holiday spending season is still ahead of us. Recessions usually start when consumer spending declines, which causes companies to lay off workers, which leads to further declines in spending. The decline in hiring is a concern. The U-6 unemployment rate is gradually climbing.
The bond market is giving a signal that has happened in every recession since 1980. The 10-Year Treasury Constant Maturity Minus 2-Year Treasury Constant Maturity rate, which has been negative since the yield curve inverted, has turned positive. This is because the Fed is cutting the fed funds rate at the same time that the bond market is demanding higher yields on longer term Treasuries. (Treasury prices have been falling since the Fed cut the fed funds rate.) At this point the yield curve is almost flat. This is typical before recessions when the yield curve normalizes to a positive slope.
The stock market indexes are still rising but there’s noise (too early to declare a trend change) in VIX and bullish percent. CAPE is still rising in its bubble.
The trade is risk-off in stocks but risk-on in junk bonds. Bond spreads are very low so investors aren’t being compensated much for risk. The Fear & Greed Index is neutral.
Gold and silver are rising. Copper and oil are stable. USD is rising toward the top of the channel it’s been in since the start of 2023.
Economic activity in the manufacturing sector contracted in October for the seventh consecutive month and the 23rd time in the last 24 months, say the nation’s supply executives in the latest Manufacturing ISM® Report On Business®.
The Services sector report for October isn’t out yet but economic activity in the services sector expanded for the third consecutive month in September, say the nation’s purchasing and supply executives in the latest Services ISM® Report On Business ®. Services represent about 80% of the U.S. economy.
The METAR for next week is for volatile weather. The election (plus potential associated unrest) and the FOMC meeting are unpredictable and may impact the markets.
Wendy