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Larry Lindsey

President & CEO, The Lindsey Group

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Federal Reserve policy should be more restrictive

Apr 8

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The American economy is booming, with high GDP growth, record-low unemployment, and wage gains for median workers. Over the past few quarters, U.S. economic growth indicators have consistently outperformed official projections. But the U.S. Federal Reserve recently conceded that its policies might be too restrictive, hindering the full potential of the U.S. economy, which the Fed and other economists argue is capable of even better performance in the quarters ahead.

Straight Arrow News contributor Larry Lindsey casts doubt on that hypothesis and warns against less restrictive “dovish” actions that the Federal Reserve might take in its pursuit of this kind of thinking. If anything, Lindsey contends, our economy is “too hot” and the Federal Reserve should adopt more restrictive policies.

Turns out the Fed is quite dovish, at least in its rhetoric. And that’s just propping the tape up and to move even higher. Well, this is kind of strange, it all started with the last FOMC meeting, and it starts with what the Fed thinks is going to happen. They’ve put this down in something they call the summary of economic projections. And they said the economy’s gonna run hotter, they said GDP is up seven-tenths of a percent this year from their last estimate, and 2025 is up another two-tenths of a percent. The unemployment rate is going to be down by a tenth of a point. And the consumer price index, the PCE that they use, one of the measures is up one-tenth and the other is up two-tenths from their last projection.

So things are running hot, higher inflation, higher growth, and lower unemployment. Well, one would think this would move them toward a tighter stance. But the median member, there are 19 members, 10 of them said we’re going to stick with what we said, nine of them sort of tightening their projections a little bit, but then out came Chairman Powell. And he gave a very dovish press conference. That was the market reaction, that was the reaction of all the commentators. The main point he makes is he thinks that currently, Federal Reserve policy is quite restrictive, meaning that it’s really doing a lot to slow the economy. Well, if that’s true, why are they projecting a faster rate of growth, if it’s being so restrictive? It’s unclear what the Fed thinks. And that’s not the only strange part of the belief that this is quite restrictive.

There’s an old saying on Wall Street. First part of it is don’t fight the tape, meaning the trend is your friend. The other is don’t fight the Fed. The Fed wants to make things easier when you want to buy, if it wants to make things tougher then you want to sell. Well, both of those assumptions are right now moving in the same direction.

 

Turns out the Fed is quite dovish, at least in its rhetoric. And that’s just propping the tape up and to move even higher. Well, this is kind of strange, it all started with the last FOMC meeting, and it starts with what the Fed thinks is going to happen. They’ve put this down in something they call the summary of economic projections. And they said the economy’s gonna run hotter, they said GDP is up seven tenths of a percent this year from their last estimate, and 2025 is up another two tenths of a percent. The unemployment rate is going to be down by a tenth of a point. And the consumer price index, the PCE that they use, one of the measures is up one tenth and the other is up two tenths from their last projection.

 

So things are running hot, higher inflation, higher growth, and lower unemployment. Well, one would think this would move them toward a tighter stance. But the median member, there are 19 members, 10 of them said we’re going to stick with what we said, 9 of them sort of tightening their projections a little bit, but then out came Chairman Powell. And he gave a very dovish press conference. That was the market reaction, that was the reaction of all the commentators. The main point he makes is he thinks that currently, Federal Reserve policy is quite restrictive, meaning that it’s really doing a lot to slow the economy. Well, if that’s true, why are they projecting a faster rate of growth, if it’s being so restrictive, it’s unclear what the Fed thinks. And that’s not the only strange part of the belief that this is quite restrictive.

 

The Chicago Federal Reserve, which is one of the members of the Fed, has something called the financial conditions index. They’ve charted this for many, many years. Right now, their financial conditions index is easier than when it was when the Fed started hiking rates back in March of 2022. They’re saying it’s easy. Or if we’re really being restrictive, what industry should be particularly hard hit by restrictive monetary policy? Well, it’s the homebuilders. What’s happened to the home builders? Well, in the last five months, they’re up 55%. To put that into perspective, the really hot part of the market is the NASDAQ, which has a lot of technology stocks in it. It’s only up 29%. So the homebuilders have been surging twice as fast as the already booming NASDAQ. Not only that, in terms of the home industry, home construction is up 17% Since the Feds last rate hike in July. And not only that the confidence that home builders have is now in positive territory for the first time since before COVID. Then there’s the bank index, if we were being really restrictive, you really wouldn’t see banks surging. But in fact, in the last year, banks are up 27%. So there’s no sign of restrictive monetary policy there either. So there’s a lot of alternatives to the dollar. And if the Fed was really being restrictive, the Fed would look great. Well, it doesn’t show up in the numbers. The euro is up 3.8% In the last five months, even though Europe hasn’t raised rates. Now if we were really being restrictive, that would not be the case. The big headline people may see is that crypto, which is billing itself as an alternative to the dollar. Now hit hitting new highs. We see for example, Bitcoin is now up over $70,000 to a record ERD gold has hit a new record. And perhaps of more direct concern, there’s something called the five year break even inflation rate, it’s the difference between what the regular bond is yielding, and what the inflation protected bond is yielding. The difference between them is what people think inflation is going to happen. And just so far this year, which is three months, the breakeven is up 25 basis points. So the bond market is thinking we’re going to have higher inflation to this is a mess. Because the markets love the Feds dovish SNESs. But what are they doing with it? They’re bidding up the prices of things that should be the big beneficiaries of inflation, that doesn’t indicate that the Fed is being restrictive. How does it all end? Well, first, it’s always possible that the Fed does what it says it’s going to do and cuts three times and they turn out to be right. And contrary to all the market indicators, inflation falls, well, then we have reason to celebrate. The Fed could cut, but inflation could not fall, in which case they are in big trouble, particularly if inflation rises. That would mean the Fed is wrong, wrong wrong, just like they were wrong and 21 and 22, early and 22. When they thought that the inflation incident we were having then was transitory. It turned out most of it was not. And then it’s also possible that the Fed blinks and begins to raise rates, in which case stocks would tumble, they are priced for perfection. They’re priced that not only is the Fed going to cut in the face of already easy monetary policy, but inflation is also going to fall in the face of all the market indications and what seems to be a rather easy set of monetary policies. So no matter how you cut it, there’s a disconnect here, between what the Fed seems to be saying and what the market reaction is. What that means when there’s that disconnect if you’re supposed to follow both the Fed and to end the tape, don’t fight them. It means when there’s a conflict, things are going to end badly. This is Larry Lindsey for straight arrow News.

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