Last week in Wyoming, Federal Reserve chair Jay Powell gave an eight-minute speech at the annual Jackson Hole symposium watched around the world.
Powell adopted a hawkish stance at the gathering of central bankers and bluntly laid out the challenge inflation posed. In his words, combatting this – and restoring balance – would “bring some pain to households and businesses”.
In those eight minutes markets turned negative as traders realised further rate hikes in 2022 had been all-but-confirmed. None of this was very surprising to some commentators, including Mazars chief economist George Lagarias.
“We are in a bear market and volatility is to be expected,” says Lagarias. “Inflation is extremely high, and markets have learned to over-dissect every world the Fed says, that inconsistencies and policy uncertainty are also to be expected.”
Central bankers’ statements and press conferences have become a common source of scrutiny for many strategists and investors, and 2022’s Jackson Hole symposium was no different. Instead of trying to interpret the speech, Brandywine Global portfolio manager Jack McIntyre is taking the brief comments for what they are.
“Kudos to Powell for being that direct,” says McIntyre. “He clearly doesn’t want the Fed to repeat the mistakes of the 1960s and 70s, which included the Fed backing off on the tightening cycles once there were some signs that inflation was rolling over.
“Powell acknowledges the Fed can really only impact aggregate demand, and that’s why the pain has to come through the employment market. Bottom line, the message to the market was the same narrative that has been coming from other Fed officials: Don’t price in a dovish pivot for the first half of 2023.”
What to expect now
Further rate hikes from the Fed will likely follow in the remainder of 2022, with US inflation at 8.5% and still significantly above the target rate of 2%. Powell did not confirm the actual size of these future rate hikes, but this is immaterial according to Janus Henderson Investors global bonds portfolio manager Jason England.
Alluding to recent comments by Patrick Harker, president of the Federal Reserve Bank of Philadelphia, England says: “Regardless of whether they hike 50bps or 75bps, as Harker pointed out, 50bps is still a substantial size hike so it should not be taken as a dovish pivot as there is more work to be done on inflation and they will keep at it until the job is done.
“The committee will also have one more NFP report and one more CPI report prior to the September meeting that will influence their decision; as Powell stated, the size will depend on the ‘totality’ of the data.”
Though the Fed’s meeting on 20-21 September will likely attract interest, Powell’s hawkish statements will have given other central bankers much to think about.
Inflation pains are being felt around the world, particularly in Europe where a worsening energy crisis is exacerbating higher inflation and adding pressure on the European Central Bank.
The ECB had raised rates by 50bps in July and delegates from the central bank attending the event in Wyoming pointed to more forceful action.
ECB board member Isabel Schnabel told the audience: “In this environment, central banks need to act forcefully.” A 75bps rate hike in Brussels is now widely anticipated.
“After these comments at Jackson Hole, the ECB’s policy meeting in September is looking far more important than the Fed’s FOMC meeting,” remarks Brandywine’s McIntyre.
He is not alone, and others are already looking elsewhere to how other central banks respond. With inflation data showing no signs of abating, Candriam head of fixed income Nicolas Forest expects rates to be going up in major markets for some time.
“In our view, it’s clear central banks have not finished in their fight against inflation. We are short duration,” says Forest who also anticipates a 75bps hike from the ECB.
“The next hikes will weigh on the credit spread, and we are defensive on credit spread. In Europe, the risk of EU fragmentation is increasing. In conclusion, it looks like we are seeing ‘la rentrée de tous les dangers’ – the return of all dangers.”
Higher rates for longer sparks concerns
Markets may have been falling as Powell finished his speech, but its contents were widely expected by many economists.
The speech did not placate concerns over the long term and Mazars’ Lagarias, is concerned about how higher rates for longer still have adverse effects.
“Investors should worry about the longer-term implications of the Fed’s stance,” says the economist, who is concerned about the slowdown turning into a deep recession.
“Inflation could turn into deflation. Emerging markets and US exporters are suffering from the strong dollar. Consumers are at the end of their tether, especially when central banks are designing policies for the expressed purpose of keeping wages down, even during a cost-of-living crisis.
“The time when central bank independence is questioned may not be so far away.”
‘Subtle pivot’
Despite the headline losses in markets and heightening concerns over deep recessions, some are more optimistic about the long-term takeaways from Powell’s speech.
Kristina Hooper, global market strategist at Invesco, takes comfort from Powell’s commitment to being a data-dependent central banker and argues there could be signs for optimism.
Given data is continually being produced across a number of metrics, Hooper is optimistic of Powell being influenced by this and not market sentiment.
Citing one example, Hooper pointed to a release from the University of Michigan Survey of Consumers.
This revealed consumer inflation expectations are becoming better anchored in the short and longer term. Specifically, one-year ahead inflation expectations were 4.8% for August versus 5.4% in June. And five-year inflation expectations were 2.9% in August, against 3.3% in June.
“Of course, there will be more data before the Fed meets next,” says Hooper.
“September 21 is a long way away and much can happen, but I believe there is a very good chance that the Fed will subtly pivot in September.
“You may have heard of the ‘humble brag’ — well, I suspect you might be hearing more about the ‘subtle pivot’ going forward.”
