Rates

There’s lots of Fed speak pushback to near term rate cuts in the media today.

I don’t think that’s what the Fed governors are “really” saying. Sure they don’t want the market to get carried away. Sure they want to see confirmatory data first. But (to our mind) all the hawks have greenlight substantial cuts this year; I mean, we can see it dot plots, we don’t need to imagine or infer “Fedspeak”.

More broadly, we tend to think the very powerful disinflationary impulses that pushed rates so low over the last decade probably didn’t just disappear overnight with the pandemic.

That’s big picture. But there are also handy “then and now” comparators. For example, in late 2019 the Fed was cutting rates, from 2.50%, because growth and inflation were weakening. EPOP, quits, these measures are the same today as 2019, with a Fed funds rate 300bps higher today.

As such, it doesn’t seem undue to suggest policy should be moving towards neutral posthaste. Credit seems like a well-suited comparable; delinquency rates now for credit cards, and consumer loans, are above end-2019 level, with the FFR 300bps higher.

If you assume that there are any lags to how monetary policy impacts the economy, well, keeping rates at above 5% now should only worsen whatever momentum is behind those rates delinquency rates.

I certainly get the whole “deglobalisation” story as a reason for higher rates. The basic idea is that if supply chains have to become “less efficient” through onshoring as a form of redundancy (in the event a pandemic, or war, whatever it might be) that means supply down relative to demand and that resolves itself through higher inflation which necessitates higher rates. If that process takes years to do, which seems reasonable, it could well mean multi-year addition inflationary pressure.

But deglobalisation from who? And to where? China still seems to be running enormous trade surpluses. As someone said on the internet, they aren’t exporting to Mars.

Now that’s a clever sentence, and it feels definitive, even if I am not actually sure what it defined or clarified. But I still don’t see it as a powerful inflationary narrative. Firms are in the habit of searching for low cost alternatives, and I don’t imagine that choices are so limited as to where and when to source intermediate goods such that we need a 5% fed funds rates to suppress inflation. If anything, I can see the opposite, the tighter the policy / the higher the cost of carry the more difficult it is to do anything, including things that would improve supply. And, as is always the case in economics, why would it only be one sided thing? E.g., if firms have so little choice when selecting where to invest, does it not imply that total investment has fallen, which is a demand side thing. The second blade of the scissor also moves.

Decarbonisation? Yes, like deglobalisation, I can accept it as an idea, one that academics far smarter than I debate as to its longer run / downstream inflationary outcomes/pressures/impulses.

But when I look at utilities companies who are trying to match the retirement of production assets (or in the upstream producer case, the depletion of reserves) with the “bringing on” of renewable assets, it isn’t super clear that this involves a huge amount of additional net investment. Again, that’s the sort of thing you type onto the internet, and live to regret it, so perhaps the simpler sentence is the speed and timing of such deployment is likely done in a manner that doesn’t imperil its economics by relentlessly bidding up the price of capital such that no capital is deployed, and since there is an entire existing industry that goes out of business (the hydrocarbons) when substituting the renewables it isn’t clear that net investment is beyond our funding means.

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