Well, This Is Fun

Arbor Data Science  •  Daily Data Points  •  February 9, 2022

With a stunning January jobs report under its belt, there is little – if any – chance of seeing the Fed back away for its hawkish stance. Omicron was suspected to hit the labor market, but it turned out to be nothing a little seasonal adjustment could not fix. A bad report was going to be a look through for the Fed, and a great report is simply a confirmation of its current bias towards tightening. Not going to be more hawkish or dovish because of it, simply more confident in its stance.

This is one of the more important charts for the Fed. The jobs report was a blow out with 3.6 million people calling in sick. When those return to work, the labor market is going to be even better.

Furthering the Fed’s confidence, the inflation outlook has not improved. The CPI data will come out later this week, and it could improve (decline). But a marginal improvement in the outlook for inflation is not going to persuade the Fed to change its tone.

The issue for the Fed is now less realized inflation, and more the embedded expectations for inflation. It cannot allow for inflation expectations to spiral higher. That leads to a far more problematic circumstance for the Fed.

According to the New York Fed Survey of Consumer Expectations, there is an interesting demographic divide on the issue. While inflation expectations remain well anchored(ish) for those under the age of 40, they are not for those in the over 60 camp. One has lived through an inflationary environment, the other has not.

And that is what the Fed is most concerned about for now. Realized inflation is not in its control. It knows this is the case, but it needs to keep the expectations under control. That is the Fed’s target in tightening, not realized inflation.

About that tightening. There is an odd debate about whether the Fed will go 25 or 50 basis points in March. The debate misses the nuances of Fed policy entirely. Effective fed funds is currently 0.08%, not even at the mid-point of the 0 to 0.25% band.

Hiking rates is not what it used to be. The questions that should be asked are two-fold. How many ranges is the Fed going to hike? And where in the range is it going to target? Those are the true questions. The Fed could raise one range and set the target near the top. An effective hike of 0.32% is not out of the question, and it is a pseudo-signal of a strong tightening cycle. But it would only be “one hike”.

There are plenty of ways for the Fed to signal its fighting inflation. It does not need to do a “50 basis point” hike.