Esther George could not have been much clearer. Inflation is too high and must come down. Financial conditions must tighten, and securities markets are a key monetary policy transmission mechanism. And the Fed today has little clarity on how far this tightening process will need to go.
I can’t emphasize enough the ramifications for what I believe is a historic reversal of speculative finance
Our system faces a serious inflation problem. At the same time, Market Structure and systemic fragilities simply cannot tolerate a significant tightening cycle. It is a Quagmire. The writing’s on the wall: faltering markets will spur a major tightening of financial conditions, while consumer inflation remains elevated.
The crime syndicate otherwise known as wall street is under investigation. But don’t feel comforted because usually they find crimes but nothing ever happens.
Everything points to powerful inflationary dynamics and a Federal Reserve hopelessly “behind the curve.” The market is now pricing in a 2.86% Fed funds rate at the FOMC’s December 14th meeting. Moreover, the Fed is expected to soon commence its $95 billion monthly balance sheet reduction (“QT”).
I can’t see how this adjustment proceeds smoothly. A panicked run – similar to what was materializing in March 2020 – is a distinct possibility. Credit is inherently unstable. This has been a deeply-flawed multi-decade experiment.
This implies a major cycle inflection point for the bond market, now faced both with a secular upturn in inflation and diminished QE prospects. And a secular jump in Treasury yields would demand a long overdue downward valuation adjustment for stocks, corporate Credit and other financial assets.
The SP500 moved from the bottom of the price channel to the top within the day on 13 April. The price channel is declining so today’s move up means little so far.
The previous cycle enjoyed incredible staying power, and it will be difficult for most to accept that such a rewarding era has run its course.
At first I was half joking, then I decided it was the only way, but I never expected the Fed would come to the same conclusion.