We no sooner got rid of one major threat to world growth—the trade war—than the coronavirus sprang forth to present another threat. And this is in light of US growth on the sluggish side. The Atlanta Fed has returned to 1.7% for Q4, while the NY Fed, as usual, has a measly 1.2%. We find out tomorrow, and the GDP number is not unimportant, but the rate of growth pales in comparison to the inflation numbers.

The Fed voted, all members, to keep the Fed funds rate in the range of 1.50% to 1.75%. The Fed also decided to raise the reserve rate (what the Fed pays to banks to hold their reserves) from 1.55% to 1.60%, which those in the know had expected. Before you yawn, consider that the Fed is flooding the market with cash (and raising its balance sheet) with no appreciable effect on capital investment or any other Real Economy factor. Business and consumer confidence are high, and so is the stock market, but what the Fed is achieving for the wider economy is, apparently, nothing. Note that the Atlanta Fed just lowered its estimate of Q4 GDP because capital investment fell to -2.5%.

From the sentiment point of view, the problem is that some see holding up the repo market is still QE and calling it “plumbing” doesn’t make any the less QE in nature. So when it’s not needed any more—Powell said Q2—it will look like tightening. Yeah, silly thinking but that’s the way these market players think, so you have to go with it. And that could trigger a recession.

The still-dovish Fed is not working to goose investment or inflation. The model defining the connection between growth and inflation is not working, let alone employment and inflation (the Phillips Curve). We no longer know how to think about inflation, especially because in one version, inflation has been too low for too long, but in other versions, it’s behaving according to Hoyle, sort of. Europe, of course, has the same concern about misbehaving inflation and/or inadequate central banks modelling. Following in Japan’s footsteps, both are working on new reports on the subject.

The majority view of inflation is that it’s not high enough, especially in the context of all the dovish boosts. In the US, the CPI version of inflation was up 2.3% in Dec y/y, but the Fed’s preferred version, PCE, is a tad lower as of the end of Q3 at 2.12%. With a Fed target at 2%, we are terribly confused why everyone says inflation is “not meeting its target.” See the charts. Does that look sub-par to you?  And yet the TIPS market for inflation-adjusted issues shows yields at zero and below. Clearly investors don’t expect inflation, either.

Some analyst like to talk about core PCE, which is not the Fed’s target. The FT writes that when we get the update on Friday, it will be a lowish 1.6%. “This measure has averaged 1.5 per cent since 2009 versus the Fed’s target of 2 per cent, which is why some think central banks are swimming against the tide on inflation. And during his press conference Jay Powell highlighted concerns about prolonged low price pressures, remarks that sent Treasury yields to their lows of the session.” And if core PCE falls a bit more on Friday Treasuries will fall further. A drop in yields will always be compared to what’s happening in other markets, especially the Bund but also the Gilt and JGB. Not really a threat to the dollar, but still.

In Germany, we will get CPI today and the eurozone reports the flash January CPI tomorrow. The forecast is for a drop on the month-over-month basis but a small gain to 1.4% y/y (from 1.3%).  It’s pretty clear that extension of QE is not working to boost inflation in the eurozone.

It seems blazingly obvious that US tax cuts failed to boost investment, since they were spent on executive bonuses and stock buybacks. Fed rate cuts failed to boost investment and mostly fueled the stock market. What boosts investment? Fiscal spending and/or tax cuts directly specifically to incentivize investment. In this sense, directed tax cuts are a subsidy, and so what? “Pure” capitalists dislike subsidies as interfering in the free market machinery but in practice we do it all the time. Oil companies are still getting a tax break that originated decades ago. It goes without saying that banks get their cost of goods, so to speak, manipulated for them. Let’s not be hypocritical about it.

In Germany, fiscal prudence is extreme, hence the pan-EMU plans to fight climate change and other initiatives, but minds have not been changed and it’s not the accepted norm that in a massive global slowdown, a little government boosting might be called for.

So, while central banks dither—and it has to be seen an ineffectual dithering, since fiscal is outside all central banks’ wheelhouses—growth is going to slowing down drastically for several weeks, if not months, because of the pandemic. We will know as purchasing managers indices and other activity indices start faltering, starting with China (if they tell the truth). This implies inflation will be slowing as well, with the cries and demands for rate cuts increasing in volume. The one voice that we can expect to be especially loud is Trump’s. It won’t be long before we smell yield curve inversion and fearful screams about recession.

Another rate cut in the US? You bet. For the dollar, this doesn’t necessarily mean a reversal, because if everything else remains the same, conditions elsewhere will be worse—Bund yield even more negative, for example.

Politics: We watched a great deal of the Q&A in the impeachment trial yesterday. The defense was pathetic—he didn’t do it, and even if he did do it, it’s not a crime and you need a crime to impeach. The prosecution is sticking to its story that while every president may engage in abuse of power, this instance qualifies for impeachment and if you can’t see it, you’re a dunce. Stalemate. It also seems that McConnell has intimidated the Republicans and witnesses will not be allowed, rendering the trial a sham. Bah.



This is an excerpt from “The Rockefeller Morning Briefing,” which is far larger (about 10 pages). The Briefing has been published every day for over 25 years and represents experienced analysis and insight. The report offers deep background and is not intended to guide FX trading. Rockefeller produces other reports (in spot and futures) for trading purposes.

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