The FED: Maximally Dovish
The FED: Maximally Dovish
2.9% neutral by the March 2025 FOMC is base case.
Disclaimer: For informational purposes only.
Please see here and here for more information about The Weight of the Evidence.
Discussion
My pre-FOMC call for a hawkish SEP (3.4% Dec25 Fed Funds vs. 2.8% Fed Funds futures) was correct, but my analysis of the FOMC’s aggregate reaction function was not: The Powell FOMC is currently in a maximally dovish posture, full stop, which explains the lack of Fed Funds futures reaction to said hawkish SEP.
As discussed in Don’t Fight the Waller, on August 21 in advance of Powell’s JHOLE speech Nick Timiraos outlined two scenarios for FED policy:
Three 25s at the final three FOMC meetings of the year; then depending on how the economy responds to those three cuts, either an acceleration to 50s or a reduction in the pace in subsequent meetings.
Scenario #2 is a series of 50s to get the Fed Funds down to 3% neutral by next spring. (Six 50s would lower Fed Funds to 325-350 by the May 2025 FOMC meeting.)
Much as he did at the June 2022 FOMC when he said 75 bps hikes would not be the norm in order to maintain balanced market pricing of 75 vs. 50 ahead of future rate decisions, Powell cloaked last week’s 50 in language that suggested 50s will not be the norm going forward, no doubt to maintain balanced pricing of 50 vs. 25. And current pricing for the November FOMC confirms:
After absorbing FED communication since the FOMC from Waller, Kashkari, Bostic, and Goolsbee, I believe it is clear the Powell FOMC intends to cut in a string of 50s until 2.9% neutral is reached by the March 2025 FOMC. By maintaining balanced pricing of 50 vs. 25 while cutting to neutral the Fed maintains optionality for responding to better than expected data and some semblance of control over general financial conditions; but I think it’s clear that “data dependency” and a relatively hawkish SEP are merely cover for a maximally dovish posture.
The Key Tell
The key tell for this dovish posture is the sudden focus on downside inflation surprises, starting with Waller. Following a decidedly hawkish pre-blackout speech where he raised the labor market bar to a jumbo rate cut, in a post-FOMC interview with CNBC Waller suddenly focused attention on the Fed supposedly “undershooting” its 2% inflation objective based on 4-month annualized core PCE inflation ex housing running below 2%. Sure, the Fed received favorable inflation data during blackout, but the notion the Fed needs to start defending its inflation mandate from below is clearly ludicrous, indicative of the Fed creating cover for rapid cuts.
Waller’s extremely dovish inflation commentary was subsequently confirmed by Kashkari, Bostic and Goolsbee this morning, further solidifying the fact this is an FOMC on a mission to get to 2.9% neutral ASAP.
Now the question is what impact getting to 2.9% neutral ASAP is likely to have on financial markets.