Translating Fedspeak: The Truth From the Latest FOMC Statement

Have you ever noticed that the Federal Reserve says a lot without really saying much?

Back in the days of Fed Chairman Alan Greenspan, economist Alan Blinder coined the term “Greenspeak,” which eventually became “Fedspeak” to describe the language used by Fed Chairs succeeding Greenspan. Simply put, “Fedspeak” is vague commentary designed to keep Wall Street from reacting to the Fed’s comments.

But ambiguous language and doublespeak never appeases investors; it just creates more confusion. The latest Federal Open Market Committee (FOMC) statement is a prime example. Fed members discussed vital interest rate hikes, tapering quantitative easing policies, rising inflation, and the U.S. economic recovery. While the net result was they did nothing, the obtuse commentary drove the broader market lower, with the S&P 500 slipping nearly 2% during the week of June 14.

Let’s consider the Fed’s most recent comments and try to uncover the truth.

“Widespread vaccinations have joined unprecedented monetary and fiscal policy actions in providing strong support to the recovery. Indicators of economic activity and employment have continued to strengthen, and real GDP this year appears to be on track to post its fastest rate of increase in decades.” – Fed Chairman Jerome Powell

In his prepared comments for Congress, Fed Chairman Jerome Powell reiterated the latest FOMC statement that the U.S. economy has experienced “sustained improvement” supporting the central bank’s recent increase in GDP forecasts. The Fed expects 2021 GDP growth of 7%, which is up from the previous estimate of 6.5% back in March. Concerning unemployment, the Fed still anticipates 4.5% unemployment this year. [1]

The jobs market has improved drastically in recent months as more and more states reopen. The Labor Department reported that 559,000 jobs were added in May, and the unemployment rate dipped to 5.8%. That represented a new pandemic low and the first time unemployment slipped below 6% since March 2020. Still, even if the current pace of job gains continues, some economists project that the labor market won’t reach pre-pandemic levels until well into 2022.[2]

The Fed has been pretty insistent that it wants to see full employment before tapering its easy monetary policies. What constitutes maximum employment in the U.S. has varied over the years, but most economists estimate it to be between 4% and 6.4% unemployment. Today, most think the Fed is looking for closer to 4% unemployment.

We’ll know even more about the employment situation here in the U.S. on Friday, July 2, when the Labor Department releases its unemployment report for June. In the meantime, it’s clear that the Fed is pleased with the rate of the economic recovery, but remains focused on further improvement in the jobs market before they will change monetary policies.

“Our expectation is these high inflation readings now will abate.” – Fed Chairman Jerome Powell

The Fed mainly stuck to its claim that inflation is “transitory.” Still, in true doublespeak, Powell also noted that the reopening of the U.S. economy had ignited inflationary pressures that could be “higher and more persistent” than the Fed initially anticipated.

The latest Consumer Price Index (CPI) and Producer Price Index (PPI) readings indeed showed that inflation continues to rise. In May, the CPI jumped 5% year-over-year, marking the fastest pace since August 2008. Excluding food and energy, the so-called core CPI also rose 3.8% year-over-year in May—the most significant jump in nearly 30 years![3]

The Labor Department also reported that the PPI soared 6.6% year-over-year in May, or its biggest 12-month jump ever. Core PPI, which also excludes food and energy, increased 5.3% year-over-year, marking its most considerable rise since August 2014. Grain prices, as well as oilseed, beef, and veal prices, led the PPI’s climb higher in May.[4]

The Fed expects inflation to climb at a 3% annual rate in 2021 and then dip to the Fed’s 2% inflation target in 2022. Only time will tell if the recent rise in prices will be “temporary,” as the Fed now contends.

“It’s clear that the economy is improving at a rapid rate, and the medium-term outlook is very good. But the data and conditions have not progressed enough for the [FOMC] to shift its monetary policy stance of strong support for the economic recovery.” – New York Fed President John Williams

The Fed has acknowledged that the U.S. economic recovery is robust, and inflation continues to rise. Still, FOMC members remain hesitant to make any changes to monetary policy—at least for now. FOMC members voted to keep key interest rates between 0.5% and 0.75% and maintain its $120 billion per month purchases of bonds in mid-June.

However, what shocked Wall Street was that 13 of the 18 FOMC members think the Fed will increase key interest rates in 2023, with most anticipating two rate hikes that year. Seven members even believe that a key interest rate hike could occur in 2022. It seems not all FOMC members agree with Williams’ stance that it’s not time to make changes to Fed policies.

In fact, Robert Kaplan from the Dallas Fed supports adjusting policies “sooner rather than later” to better manage the risks associated with the economic recovery.[5] Kaplan doesn’t have a vote on changes to interest rates this year, but his recent comments make it clear that not all Fed governors and FOMC members are on the same page.

In the markets, some now believe the Federal Reserve is behind the curve in keeping its easy monetary policy. These folks think we may face structural inflation and have a more bearish outlook for the markets.

It’s essential to keep in mind that we cannot know if the easy money policies of the past year are now feeding a period of structural inflation, or whether current inflation is transitory. How this plays out has a significant implication on where the markets will be in a few years. It’s always unwise to bet against the Federal Reserve because they work with powerful tools. However, as we saw in the 1970s, they can lose control over monetary policy if the forces of structural inflation become too great.

For us at Nicollet Investment Management, what we see amidst the doublespeak is a Fed that has done a pretty good job managing challenging times. But we recognize this is a critical juncture in the markets and are monitoring things closely.

If you would like to learn more about Nicollet and how we can help you do the same, please give me a call.

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[1] https://www.usnews.com/news/national-news/articles/2021-06-16/fed-raises-inflation-and-economic-forecast-hints-at-first-rate-hike-in-2023

[2] https://www.nytimes.com/2021/06/04/business/economy/jobs-report-may-2021.html

[3] https://www.cnbc.com/2021/06/10/cpi-may-2021.html

[4] https://www.cnbc.com/2021/06/15/retail-sales-producer-price-index-may-2021.html

[5] https://www.wsj.com/articles/two-fed-officials-say-they-are-ready-to-weigh-stimulus-pullback-11624289475