In a widely anticipated move Federal Reserve Chairman Powell announced the slowdown in the magnitude of rate hikes to .25%. While the markets were waiting impatiently for a signal that the Federal Reserve will lower rates later in the year, they did not receive this gratification. Chairman Powell is right to be cautious. While early signals do suggest the desired impact of raising rates is leading to disinflation, it is still too early to say for sure. The Federal Reserve's caution and prudence is warranted and a signal to the markets that they are trying to get this right without unnecessarily sending the economy into recession. A wait and see mode makes sense.
Today's unemployment report only underscores this fact. The Bureau of Labour reported that the unemployment rate fell to 3.4% and the economy added 517,000 jobs exceeding the most optimistic forecasts. While some debate how accurate these numbers are, the labour market remains strong, the strongest it has been since 1969.
This presents challenging issues for the Federal Reserve as part of their desired impact from rate hikes is a weakening in the labour market to stifle wage inflation. The markets are having to digest conflicting data and discern the future. January wage growth for example has cooled with average earnings dropping from 4.8% in December to 4.4% in January. Until the signs of the wage push inflation cooling are more clearcut, the Federal Reserve will continue to wait, watch and act.
In the midst of mixed economic data signals the USA has also surpassed it's debt ceiling which will now be used as the context for political hardball. Common sense will prevail as a default on the US dollar and the consequences of that to the global economic theater will not be entertained by any politician who is interested in maintaining their chosen career. That being said, a drama around this will likely unfold and it will pass. While the path of developed nations has been to consistently "inflate" one can also reflect on the question of how long this modus operandi is sustainable. Fiscal conservatism seems like a distant concept of the past. Putting off the alternative is the preferred option.
Will a relatively new 2% acceptable annual inflation rate turn into a new 3% acceptable rate while interest rates are kept within acceptable bounds. Will the AI economy emerge and usher in lower costs of production and be a force for disinflation. We are living in new economic territory post-COVID.
Markets are off to a strong start and the wall of worry to be climbed in this market represents in large part inflation data and Federal Reserve policy.