Market Expects Fed to be more Accommodative
The San Francisco Fed has a paper, Assessing Expectations of Monetary Policy, where they make a case that the market expects monetary policy to be more accommodative than the Fed is projecting. How could that be when the Fed has been so aggressively accommodative until now? Shouldn’t they tighten already?
In my view, the market does not see the economy being able to expand as needed over the next two years. They see economic opportunities dwindling. They see profit rates stalling and becoming more competitive. They see wages subdued. They see demand subdued. They see weaknesses in Europe and China. They see stock markets unable to continue hitting records. They see fatigue settling into stock traders.
In short, the market sees an economy that grows slowly over the next two years… so slowly, that the Fed will have to maintain its accommodative policy. The economy is hitting the effective demand limit, and businesses are seeing the effects.
The current growth in the US economy is projected to continue for years. One hears that the economy is finally taking off. However, now is a good time to use low nominal rates to increase production and gain market share in a more competitive atmosphere. The accelerated growth we see now could generally be a temporary attempt by firms to hedge against a tighter Fed policy next year. It could be like runners surging with a sprint toward the finish line, but of course they do not intend to continue sprinting beyond the finish line. And in this analogy, the finish line is projected tightening of Fed policy which will have tightening effects globally.
So the SF Fed paper is showing us that firms are not optimistic about the economy over the next two years. Yet firms are accelerating operations now to position themselves in an uncertain market.
You quote/paraphrase the Fed:
“the market expects monetary policy to be more accommodative than the Fed is projecting”
Who is this ‘market’ that you are referring to? I’m assuming you mean that to be that small bunch of folks who trade bonds. If so, then you need to look at what’s happening outside the US in bond land.
US ten year = 2.5%
Germany = 1.0%
Japan = 0.53%
France = 1.53%
By comparison, the US is priced at a very rich yield today.
Also keep in mind that there is humongous amount of liquidity ‘out there’. The ‘carry trade’ is alive and well. Money is moving from place to place seeking yield. There is much more demand than supply for global Sovereign paper. (It’s all that QE that none it)
The ‘market’ is not pricing in the future of GDP/Inflation. It’s pricing in supply and demand. Part of the equation is what money earns outside the US.
I disagree. The market is asking for less imo, because to much institutional cash that is just sitting in bonds. They need it out of there to continue expansion.
The US is showing growth potential in relation to the other countries you listed. The US is also showing more inflation tendencies, while there is doubt about inflation in the other countries. The US is cutting back on QE while those other countries are increasing it.
Can this scenario change? yes…