Pedal to the metal

Apparently, the perceived odds that the Fed will raise rates in March have gone above even, following the Dudley speech yesterday and Trump not salivating over the mic or taking a dump on the dais.

I have nothing to offer on that, having silenced my dove bias a while ago – mostly because the Fed’s objectives had come into view and the market was spotting us zippo.  So zip it!  These days, I am just not following the Fed call.  Not much fun in that anyway.

Nice call by El-Erian, though.  He gave a non-conditional call that the priced odds were too low and chose not to hedge it seven ways.  Having caught the repricing at the short end, he is now  saying the event is not a slam dunk. That puts one in the win column for him.

Instead of guessing March, I would like to pursue a theme I have been pushing for quite a while now: the Fed’s tendency to say things that are nonsense, that they probably don’t even believe, and that lead to confusion, which they later try to blame on the public.

My last instalment on this theme involved Stan Fischer drawing a distinction between the Fed’s interest rate dots and what Fed members think they would like to do.  We get the dots are not a commitment. Fischer was claiming they are not even a forecast. HUUUUUUUUUUGE. (Directionally wrong too, but that is separate.)

Today, I want to follow up with the Williams speech that got this Fed repricing going.  Here is the offending paragraph, as brought to my attention by Bloomberg.

“We’re very close to achieving our dual mandate goals. Yet monetary policy essentially still has the pedal to the metal,” Williams said in his speech Tuesday in Santa Cruz, California. “We need to gradually ease our foot off the gas in order to avoid a ‘too hot’ economy that in the end isn’t sustainable.” 

The pedal to the medal is making the economy overheat which is not sustainable.  Maybe he could try plainer English?  For example, in his most recent FRBSF Letter, he points out that his best guess of r* is 50 bps.  (I don’t buy r* as a guide to policy, but I am not John Williams.)

That r* is a real and maps to a nominal neutral rate of about 2%, which would be about 1 ½ percentage points above the current target.  That is “pedal to the metal”? Or maybe Williams is talking about all that HUUUUUUUUUGE stimulus from QE, which is holding down yields by taking government rates duration off the market, even though government net rates duration supply is soaring and has been since QE started.

screen-shot-2017-03-01-at-9-05-55-amHuuuuuge insight that low rates are not that stimulative when r* has reliably collapsed.

Here is what I think is actually going on. First, there is no such thing as monetary policy taken separately.  It is what it does.  The Fed expects that under current financial conditions growth will run a bit too quickly and push the economy past their estimate of full employment within a year. So they want gently to guide  demand growth slightly lower, while risk managing (still) away from a contractionary accident, with core inflation still below the long-term objective.

This is not an easy task, particularly given that some of the instruments on their dashboard have been revealed in recent years as a bit dubious. So they are moving carefully and aware of the fact that they don’t know. All this bravado about pedal to the medal, then, is BS.

Yellen herself has described policy as modestly accommodative. The modifier modifies and the adjective doesn’t actually mean anything. I would start there. They don’t believe that policy is particularly stimulative in the sense of — you know — particularly stimulating.