FOMC Meets With Stimulus Uncertainty
It’s FOMC Meeting Day but it probably will come and go without creating too many waves. First, there’s no chance monetary policy will be adjusted, and second, there won’t be any updated rate and economic forecasts. Those will come at the next meeting on March 17. One thing we are likely to get is a question about when discussions about tapering QE purchases will likely begin. Fed leadership led by Jay Powell and Richard Clarida knocked back other Fed member comments that later this year might be appropriate. Powell and Clarida said discussions would begin only when “substantial improvement” is seen in the economy. What exactly is meant by substantial improvement is unknown but one key is probably a labor market much closer to full employment than where we are now. With unemployment at 6.7% versus 3.5% pre-pandemic getting to full employment could still be a couple years away, and so too the likelihood of tapering.
The Fed meets today in what will essentially be a placeholder event until March when the Fed will refresh their economic and rate outlook. They will also know a lot more about whether a third stimulus package is going to happen, and if so, in what size. They’ll also know whether the wobble in the labor market at year-end was just a one-off, or something more serious. The markets, both equities and bonds, have been trading since the presidential election on the assumption that a third package would be forthcoming. Now with the $1.9 trillion package unveiled by the Biden Administration it’s getting bipartisan questions, with Senate Majority Leader Chuck Schumer saying it will take six to eight weeks to pass. Meanwhile, as vaccinations continue, the pace, while improving, trails what most public health leaders want to see. Thus, we’ve had a bit of giveback on Treasury yields as the certainties of late 2020 are replaced with less certainty in early 2021.
Another factor contributing to the yield increase has been an increase in inflation expectations. TIPS Breakeven rates have risen above 2% and are higher now than pre-pandemic levels. Talk of more stimulus and vaccine rollout contributed to that increase. The Fed, however, wants to see less a supply-driven one-off spike in inflation and more a demand-side increase that is more durable. That will come from a labor market moving back towards full employment and hourly earnings moving decidedly higher. And while average hourly rates have been rising it’s been more due to low-wage workers losing the majority of jobs in the pandemic than it is true wage gains. Once we get closer to full employment, and average YoY wage gains move over 4%, the Fed will view higher inflation as durable.
January Consumer Confidence Shows Slight Improvement
January consumer confidence improved slightly to an 89.3 reading versus 89.0 expected and 87.1 in December which was revised lower from an originally reported 88.6. As the graph below shows confidence has been struggling since the pandemic but it never retreated to levels last seen in the financial crisis recession. However, if we are going to see the consumer carry the economy—and recall our economy is two-thirds consumer consumption— we will need to see higher levels of confidence.
And that takes us back to the labor market and how quickly we can move towards full employment. The negative job number in December, if just a blip is one thing, but job growth has been tailing off for months now. If January shows further struggles in creating new jobs it will take years to reemploy the 10 million or so that are still without jobs due to the pandemic. As the vaccination rollout increases, and people feel safer resuming something akin to a normal life, confidence will likely increase back towards pre-pandemic levels and spending will probably follow suit. Right now, however, it seems we are treading water in both confidence levels and the labor market. With the fate of a third stimulus package now uncertain, and likely delayed until March, the economy could find itself drifting for a few months more.
Agency Indications — FNMA / FHLMC Callable Rates
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