Will the Fed Finally Revisit the 2% Inflation Target at Jackson Hole?

  • With no economic news today, no Fed Speak, and the Jackson Hole  Symposium looming next week, it seems Treasuries will be trading in a skittish mood into the weekend which means we still run the risk of setting new cycle yield highs on the longer end.


  • The key takeaway from the FOMC July minutes was the statement that “inflation risks could require further tightening.” While that one sentence got all the attention, a read of the full minutes offered a slightly more balanced view and even a couple participants (i.e., non-voters) were of the view that they would have not voted for a rate hike, so there is that. For now, however, the fear is that we’ll hear more hawkishness from Powell next week and that’s keeping both equities and fixed income on edge.


  • The other issue plaguing the market of late is the thought that because of structural issues higher inflation may be with us and that means higher rates on a more permanent basis. In fact, with the title of the Jackson Hole Symposium being “Structural Shifts in the Global Economy” the market is probably right to think a discussion around an upward shift in inflation expectations post-Covid could be in the offing.


  • One of the key points we’ve made in recent economic presentations is that getting inflation from 3% to 2% is going to be tough. Think back to pre-pandemic times and we were living in probably the golden age for low-cost production. Off-shoring to low-cost producers had been going on for a generation. Domestic workers had little wage bargaining power given this off-shoring, labor unions were clearly in retreat, and interest rates were near zero. That environment has changed and is not likely to return soon. While in the past the Fed has recoiled at the mention of adjusting upward their 2% inflation target in the face of these new realities, is the discussion about to be had at Jackson Hole? We shall see.


  • As for more near-term inflation prospects we see continued improvement in the months ahead. Back-to-back months of 0.2% gains in both overall and core like we experienced in June and July are what we need to continue to see. One way we get that is with Owners Equivalent Rent (OER), the single largest component in CPI, start to roll over. We’re now nearly 18 months past the peak in home price appreciation and so the lag in OER is about over and should start to provide a nice tailwind to monthly inflation prints in the fourth quarter and early 2024.  Another driver of sticky inflation prints in 2023 has been core services ex-housing (the so-called Super Core), but that is behaving better of late and is another reason the Fed is likely to pause in September, but keep the higher-for-longer theme given the structural inflation issues discussed above. See the graph below and what’s required to keep CPI YoY around 2%.


  • Finally, one more plug for our recent podcast. Yours truly and Joe Keating, Co-Chief Investment Officer of NBC Securities, recorded a podcast last Friday where we discuss the latest on the economy, the Fed, and the prospects for a soft landing. The podcast link can be found here.

Agency Indications — FNMA / FHLMC Callable Rates

Maturity (yrs) 2 Year 3 Year 4 Year 5 Year 10 Year 15 Year
0.25 5.74 5.49 5.43 5.43 5.54 6.00
0.50 5.73 5.46 5.37 5.32 5.40 5.89
1.00 5.72 5.43 5.34 5.28 5.31 5.76
2.00 5.41 5.26 5.20 5.19 NA
3.00 5.15 5.13 NA
4.00 5.08 NA
5.00 5.04 NA
10.00 NA

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Published: 08/18/23 Author: Thomas R. Fitzgerald