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Navigating the Fed's challenges ahead of Jackson Hole
As the Jackson Hole Economic Symposium approaches, Penta Managing Director Ylan Mui sits down with friends of the pod John Fagan and Brendan Walsh from Markets Policy Partners to discuss the Federal Reserve's efforts to manage inflation and maintain labor market stability. They discuss recent labor market data, the state of the U.S. consumer post-COVID, and of course, expectations for a rate cut in September – and missed opportunities this summer.
The episode also delves into the implications of the upcoming presidential election for Fed policy and personnel and the potential impact on inflation from both candidates' economic platforms.
Welcome to this week's episode of what's at Stake. I'm your host, ilan Moy, managing Director at Penta. Our loyal listeners are in for a special treat today, as we're reuniting with our friends from Markets Policy Partners, john Fagan and Brendan Walsh. John and Brendan, great to have you back.
Speaker 1:It's great to be back, amazing Hope you guys have been having a great summer and, as always, all econ nerds look toward the Fed conference in Jackson Hole at the end of the summer as a way to cap off the season. Today we'll be talking about the Fed, the economy and the possible rate cut as that Jackson Hole Economic Symposium gets underway. This, of course, is the annual central bank conference organized by the Kansas City Fed. That brings together central bankers, policymakers, academics and economists from around the world to discuss monetary policy in the shadow of the beautiful Grand Tetons. So the last time we got together, guys, I think we were still discussing higher for longer and the possibility of no landing at all for the economy and for the Fed, which kept trying to cut interest rates, and it seemed like they never were able to get to it. Now it seems like the deal almost feels done.
Speaker 2:Yeah, it does. And from our perspective we're a little biased because we thought the deal should have been done at the July meeting. So our call for the first rate cut of this cycle was the July meeting and we established that call, like in the fourth quarter of last year. So we really held it. You know, we were wildly more hawkish than consensus and then consensus swung until we were more dovish than consensus.
Speaker 2:And I think you know, looking back at the not just price action but what's happened in the data since then, you know there's a sense that the Fed probably missed an opportunity to to calibrate its message a little bit, if not cut rates outright, at least calibrate its message on a little bit of a more dovish side. And there's a sense that you know they've got a course correct and they have been doing that rhetorically and the markets have been debating whether they should, you know, start off with a 50 basis point or whether they could start off with a 50 basis point cut. And that's kind of where the debate lies right now. You know just how dovish the Fed is going to be.
Speaker 1:Yeah, I think to your point, john. It's interesting that you guys were calling for that first rate cut in July because you know, if the Fed does end up going for that unexpectedly large 50 basis point cut, you'll basically be right in consensus. Right, they would have been where you, where you predicted they would be, you know, at the end of the, at the end of the fourth quarter, brendan what do you say?
Speaker 3:Do you think they're going to go for the supersized cut? I think they should, but that's why we thought it made a lot of sense to do it in July. Both the economy kind of needs it. Secondly, the presidential election is going to be very much ramping up in September and now if you, if you cut 50 percent, 50 basis points, you make yourself part of the political narrative, which is exactly what they don't want to do.
Speaker 3:So they missed the golden opportunity and I think the the data warranted it and because they they were, they actually weren't wrong about inflation being transitory. Inflation was transitory, both here and globally. It just went up way higher than they, everyone thought and it lasted, you know, probably six months longer than they all thought. But now there's so many members are so focused on, you know, proving that they have the merits to, you know, fight inflation, that they're ignoring their dual mandate. And I think recently Chicago Fed President Austin Goolsbee has been trying to send that message out that look, guys, we've got two mandates and the labor side of the economy is starting to show cracks.
Speaker 1:Yeah, there was a lot of concern about the July jobs report showing a growth in jobs of about 114,000 less than expected. But you know, for so long we had seen the job number come in higher than expected and folks kept saying when are we going to slow down? So it kind of almost feels like when the slowdown happened, folks were, folks were surprised and and and then started to get a little bit worried. So, you know, I feel like there used to be an era of, you know, bad news is good news, and now it's sort of like the news you wanted it ends up being not what you wanted after all. So maybe, maybe, watch what you wish for.
Speaker 3:And also on the labor front, the, the, the labor data is prone to huge revisions and we're actually getting that annual revision this week. So you know there's a chance that you know, I think it comes out tomorrow that we might have created a million less jobs than the official data set, which very much changes the picture. And you know, they don't know what it is today. The BLS will tell us what it is tomorrow, but it could paint a very, very different story.
Speaker 2:Yeah, and this was the data came at a time when market participants were getting a little bit more concerned about the consumer. The US consumer has obviously been, just you know, on a spending spree post-COVID. You know, shifting from sort of goods during COVID, as we've discussed, to a services spree, that revenge, travel and all of the different kinds of spending opportunities that were denied them in the COVID years that they had the savings and so forth and the windfalls from COVID relief packages and so forth. There was always going to be a time when the consumer just tired out. Right, and this was coming. The data on the labor market hit when we'd gotten a series of commentaries from, you know, corporations coming out with their second quarter earnings talking about a more tired consumer, a more discerning consumer. You know trading down to lower price points and you know the McDonald's bringing back the five dollar meal deal.
Speaker 2:Right, I mean stuff like that.
Speaker 3:And everyone involved to travel from the airlines to the hotels, to the Airbnbs had to cut their their forward looking guidance because the consumer just kind of. It was okay last quarter but they're seeing a huge slowdown here in the third quarter.
Speaker 2:Now retail sales. The latest data didn't tell that story consistently right. We've seen some noise in the data. Consistently right, we've seen some noise in the data. But you know, the expectation is that there is going to be sort of a negative feedback loop between, you know, weakening job market, where people are a little bit more concerned about their job prospects and pay prospects and so they tend to, you know, cut back a little bit more, which worsens the economy, which you know feeds into a weaker labor market, and so forth.
Speaker 2:So this is the kind of cycle that the Fed finds itself, you know, staring down right now and maybe wondering whether they're, you know, maybe a little bit behind the curve. But you know there was a sense that the sort of panicky market reaction that we saw in this idea of, you know, an impending recession and a big Fed mistake, you know there was also was also, at the same time, there were a lot of other factors going into it. Right, earnings season was coming out with some less than inspiring AI-related results, and tech ended up kind of leading the downside and the markets were. You could say that the equity market was pretty overdue for a correction in any case, and so there were a lot of factors sort of conflated. It wasn't just, you know, all of a sudden the markets lurching into this panic mode about a potential recession.
Speaker 1:Yeah, so are you talking about, john, the big drop that we saw in the S&P? Well, how long ago was it now? Time is a flat circle, but maybe it's almost a month ago now it was a month ago. Yeah, yeah, dropped about 3%, the biggest drop in about two years. And I actually thought about you, because everyone's blaming it on the Japanese carry trade right and I'm thinking about well, maybe I missed my window to travel to Tokyo.
Speaker 2:Yeah, that's right. Actually, I happened to be in Tokyo at a time when the yen was spiking.
Speaker 1:I should have been able to predict that.
Speaker 2:Yeah, the BOJ, it was one of those things that you know, in isolation it wouldn't have been that big a deal, but it happened sort of, you know, in train with all of these other events, that kind of kicked the markets when they were already down a little bit and fueled some pretty eye-popping price action.
Speaker 2:I happened to be in Tokyo that day and there was a lot of chin-scratching about what on earth is really going on in the Nikkei. There was a lot of chin scratching about what on earth is really going on in the Nikkei. But yeah, again, when I was at the Treasury Department and running the Financial Markets Analysis Unit, the prime distinction that you really had to work to achieve was between price action that, even if it seems a little disorderly, what is driving it? Is it a systemic level risk that is going to keep that trend of high volatility and downside and risk assets going through to some pretty dark places? Or is this as extreme as it might be? Is this price action that is based on sort of corrective activity, a confluence of factors, none of which necessarily rise to the level of some kind of big systemic shock? A lot of it is just simply positioning yeah, positioning issues.
Speaker 3:The market got too one-sided on whatever the thing was.
Speaker 2:Yeah, it got way offside and so you know that was kind of our take on it and you know, since then things have calmed down to a considerable degree and there's a sense that you know the Fed isn't going to be cutting 50 basis points necessarily. You know flashback. You know a week, week and a half ago, the odds that the Fed was going to be going you know big guns 50 basis points to kick off was over 50 percent. People were talking about yeah, people were talking about an intermediate cut. I mean I thought that we thought that was a little overheated.
Speaker 3:But it also is indicative of, while the Fed has a mandate from Congress for full employment in the United States and in a price stability in the United States, they still are the global central bank of the world. Everything that they do sends ripples through other major economies and it can send tsunamis through small ones. So it probably is kind of lucky that they're all out there together in Jackson Hole. Not necessarily that they could coordinate, but at least they can discuss. You know, the path forward.
Speaker 1:And certainly everyone's going to be looking toward Powell's speech on Friday for, you know, any confirmation that a rate cut is on the way, what size it might be, and just sort of his broader outlook on the economy overall, we're starting to see a lot of the big banks give their opinions on it, but no one, certainly no one's calling for a 50 basis point cut.
Speaker 3:But you know that's. He will start saying you know, maybe we go meeting 25, you know for the rest of the meetings.
Speaker 1:Right, maybe not all at once, but maybe do they move more, more regularly than they would have otherwise. You know, the other thing too which kind of struck me about the market volatility that we saw is that it's a good reminder that you know, the markets are not necessarily the economy right, and we've had this debate, especially the equity markets.
Speaker 3:Yeah, it's the one we pay attention to, but it actually is the smallest kind of goofiest one, right?
Speaker 1:Everyone says, you know, don't look at your 401k. But Actually it's the smallest kind of goofiest one, right? Everyone says, you know, don't look at your 401k. But you know, it's a small part of what people actually, you know sort of hits home and how people actually view their finances. And your point earlier about the million jobs, the fact that we might have created a million fewer jobs than we thought, you know we've talked a lot about why does economic sentiment seem sometimes divorced from what the economic data is actually showing us? And maybe that's one of the reasons why that people were feeling. People weren't feeling as as optimistic about their job prospects or optimistic about their finances because now, look, we find out, maybe the job market wasn't as robust as we thought after all.
Speaker 3:Yeah, and the Fed's labor survey came out yesterday and it confirmed that that people are still doing okay now, but it's harder to find a job. People are less confident in leaving a job or quitting a job without a job. So it's not that everything's falling off a cliff, but we're starting to see cracks. And the problem with the labor market is it weakens, weakens, weakens and then it kind of falls like precipitously. So the Fed is very much running the risk of, you know, maybe being asleep at the wheel and focusing on backward looking data, especially with inflation, which basically all the inflation is in the shelter index. Right, I wanted to. Today, that house prices are, you know, no one's buying it yet, but the asking prices in certain of the hot spots in Florida are down 30%. You know, back to the 2019 levels after the pandemic boom. That happened and you know so, but that's how high rates work. It takes a while to uh, to seep through to the economy and now we're starting to see that pain.
Speaker 1:Yeah, there's a forecast from uh, the Mortgage Bankers Association, that predicts that by the end of the year mortgage rates will be at about 6.6%. Um, currently about 7%, I think is a going rate for the 30-year fix.
Speaker 3:We've been above 8% for a long time.
Speaker 1:Yeah, yeah. So I mean that could be real money in the pockets of American families and also certainly, you know, increase demand for the available stock that is out there.
Speaker 3:Exactly.
Speaker 1:Maybe it'll also even convince some of those people who might be locked into that it's actually time to they feel more willing to sell.
Speaker 3:they could buy something else and it won't break the bank in the same way.
Speaker 1:Yeah, yeah, it's all about perspective, right? I mean, you know 6.6% might sound high compared to where we were in 2020, but if your baseline is now 8% when you've been looking, then it feels like a pretty good deal.
Speaker 3:Yeah, but also the price of the house can adjust too. So you know, maybe the monthly mortgage payment can be somewhat similar if the asking price comes down from the kind of craziness, we hit in the middle of the pandemic.
Speaker 1:Yeah, that's also a good segue to talk a little bit about some of the economic policies that we've seen be floated by the presidential candidates as we get really into the thick of the election cycle. Vice President Kamala Harris has floated the idea of a $25,000 homebuyer tax credit to help stimulate the housing market. You know, obviously that would maybe draw more people in from the sidelines but would make some of the bidding wars perhaps even a little bit more fierce than they are now.
Speaker 3:Yeah.
Speaker 1:I was talking to a friend of mine that, of course, all economics is local right, and so I was talking to a friend of mine who said that they bid on their house maybe six months ago and there are 20 people that they had to fend off in order to win the bid. So there's still certainly a lot of competition out there, especially as rates start to come down.
Speaker 2:Yeah, and obviously you know there's a sense that we saw this, particularly when you know President Biden was still a candidate and after the debate performance was was lagging pretty significantly in the polls. There was a, you know, this momentary realization in financial markets that you know, the Trump economic platform was pretty clear at the time, clear at the time and there was a sense that you know if, if he wins reelection then or wins a second term, rather than you know, he would probably take the Senate, the Republicans would take the Senate and the House giving him a much clearer path than you know a second term for Biden, which might have well come with a Republican Senate, so Trump might have. You know the sense was that Trump would have had a much clearer path to to legislation, legislative success, being able to actually implement his economic program, and you know the sense that. That you know there's been a lot of a lot of discussion about sort of the inflationary elements and so just to you know, review those, the idea of a obviously tax cuts that was like the signature achievement of the first term and he was going to re-up those and maybe even double down on them At the same time.
Speaker 2:The tariff very serious about tariffs. He did that in the past and looking to again sort of double down on that and you know, lighthizer's name coming up as potential Treasury Secretary would, you know, certainly signal a very muscular kind of pro-tariff response, alongside with the, you know, the immigration policies, even potential deportations, which would you know, naturally tend to tighten the labor market, and essentially a stated weak dollar policy and essentially a stated weak dollar policy, and then, alongside the, a more concerted, more sort of official pressure or campaign to influence Federal Reserve policy. Those were, those are very those are. All else being equal, those are inflationary set of policies. And there was this, you know this moment where Trump, you know, surged in the polls and the markets were trying to sort of grapple with just how, you know, just how inflationary those policies might be.
Speaker 3:And you know, now we're obviously getting a clearer sense of what you know Kamala Harris would feature, yeah but that's been interesting on that front because President Biden was completely and utterly blamed for the inflation that happened. But for whatever reason, once Kamala took over she didn't kind of follow her to the same extent so clearly. You know she came out with her economic policy and you know you have to kind of address the inflation issue and come up with some sort of solutions, being like you know that one wasn't my fault but I'm going to fix it. I wouldn't necessarily recommend any of the things that she proposed, but the simple reality is, if you want to fix inflation, you cut spending and you do deflationary things, which that's not fun to get you elected so no, that's not a campaign platform.
Speaker 3:Yeah, which has been criticized, but I, like, my sense is kind of there. They're more. They're more for the campaign, necessarily, than they are something that would or could even get implemented.
Speaker 2:Yeah, the Senate math isn't that different at least right now it seems from the sort of the switch to Harris at the top of the ticket. You know the sense that she would probably still have even if, even if she prevails in the general, she's not going to have necessarily the Senate on the Democrat side. Possibly, you know, maybe there's the argument would be well, she's got a lot more momentum and you know it would, it would feed, feed down the rest of the ticket. But you know there's some really tough races that democratic uh senators are facing. So you know the um, the right now. You know markets are markets, always struggle to price in political outcomes and with the and with the polls so tight right now and the unprecedented nature of this uh, of this election cycle, with an upcoming you know an upcoming debate between between Harris and Trump, which you know markets are going to potentially pivot on that. So it's it's going to be a very hard thing for for markets to price in, you know, one economic policy platform over the other.
Speaker 3:You know, barring some like unforeseen, no, I totally agree Lately the, the, the markets have been trading on data and Fed policy and you know, you kind of see the Trump trade or the Harris trade kind of fading. And I agree also that the debates are going to be really important, because it's kind of ironic, I guess that you have a former president and the current vice president, but so much of the focus was on Biden, you know being old. And then now Kamala oh, she's here but we don't actually know necessarily what her policy is. Trump doesn't really make it onto the nightly news too much, so we're almost being reintroduced to two people through these debates that we theoretically should know a lot about, you know.
Speaker 1:Reintroduced to. It's a different dynamic, at the very least right between the two, and that is a good point that you know. The first debate I remember you know being prepared to, you know brief my clients on the economic policy positions they take, and you know the substance of the debate, and obviously it was completely overshadowed by the dynamic itself and by Biden's performance. And so, you know, we didn't get much in the way of substance. Perhaps this time we will. And you know, for better or for worse, republicans had been messaging a lot of Biden's policies, you know, by attributing them to him by name Bidenflation, right.
Speaker 1:Right now that doesn't. That doesn't really help them when you have a have a new candidate and you're struggling to define her.
Speaker 3:She's struggling to define herself. Everything got pinned to him, and I think that's why it's not necessarily carrying over to her Right.
Speaker 1:Exactly, Though, to be fair, the Committee for Responsible Federal Budget did put out an analysis of her agenda as well, looking at some of her policies and proposals to expand the child tax credit, for example, to continue ACA premium tax credits and, of course, that $25,000 homebuyer tax credit. Their estimate is that if all of those policies are made permanent over a 10 year window, they would add about $2 trillion to the federal deficit. So you know, there's inflationary forces at work throughout the campaign cycle, for sure, but the one thing that I think would be obviously one huge difference there's a lot of them, but one big thing would be something that you mentioned, John, which is the pressure on the Fed. I mean, we know that Trump and Powell are not besties by far. Right, Trump has said that he may not even reappoint Powell and he would only let him continue to finish out his term, which I think goes through 2026. If Powell continued to do the right thing, which one assumes is cut interest rates after Trump is elected.
Speaker 2:Yeah, right. Well, you know, when we were back to take the way back machine not that far back, but less volatility, less market reaction and all else being equal the Fed wouldn't have cut rates with the zeal that they did in 2019 had it not been for the pressure put on by President Trump at the time. You know there are plenty of ways in which you know you see people in Washington DC, you know, do something that you know the Fed's going to be in a rate cut cycle. Right, and you know it's hard to say you know, but for the pressure from President Trump, would they have cut? You know as much. Right, it's all it's just a speculation, you know cocktail parlor chatter game that you can play, and you can certainly see a situation in which Powell does the right thing, according to President Trump, if he's reelected, you know in and the Democrats would grumble well, he's, you know, cutting more than he would otherwise.
Speaker 2:But well, the Fed's in a rate cut cycle. So how can you, you know, how can you really say, right, it's that's. You know? Obviously it would be different if you know the White House took a completely you know, a completely new approach to to, you know, interactions with the Fed and took overt steps to you know, to attack Fed independence and change the whole dynamic. There Is that possible, sure, but we certainly saw in the last term Trump griped about Powell and put a lot of pressure on him, but there weren't a lot of times when I think that they were more aligned than they weren't, I think when you look back on it.
Speaker 2:Yeah totally agree.
Speaker 1:Yeah, it's hard to prove the counterfactual right. What would Powell have done in the absence of a Trump presidency? It's really hard to say. One other thing that we should talk about, kamala Harris's as well Her views on Jay Powell. In the past she has not been an ardent supporter of his. In fact, she voted against his his nomination as chair back when she was still a senator from California. So she has also been someone who has not always supported the stances that he's taken and has maybe looked to others for her economic advice. But it seems like she would probably be a little bit more traditional let's just say that in terms of her interactions with the Fed and allow them the independence that they've historically had.
Speaker 2:Yeah, yeah, I mean the voters sent Trump to the presidency to essentially smash sort of existing norms. Right, they're not doing. They're not. The voters would not be sending President Harris, you know, with the same mission. Right, it's a it's a very different style approach, the sort of Washington like the consensus you know going to be in the same kind of mold.
Speaker 2:I mean, behind the scenes there's obviously like a robust dialogue right between Treasury and the Fed and the White House and the Fed. Right, it doesn't play out in public the same way that it does with you know Trump's policy by tweet, and so you know exactly like the degree of pressure and you know sort of there can be more than meets the eye, obviously, even when you're sort of operating in the normal course of you know Washington business, and so the expectation would be that. So if Kamala Harris were elected president, there is definitely speculation that Lael Brainard would be. You know this would be another sort of you know Fed alum, a high level Fed alum running the Treasury Department and, and you know that doesn't necessarily mean they're completely the institutions are completely simpatico, but you know, definitely comes with a sort of communications in the connective tissue Very strong. I think is one way you can put it.
Speaker 1:Yeah, absolutely. Well, let's end on an optimistic note, which is that Goldman Sachs, after raising the odds of a recession to, I believe, 25 percent, has now cut it back down to just 20 percent. So I guess we can all sleep a little bit easier. But it does seem to suggest that, after some volatility in the markets, volatility across the political landscape, that there is hope that, if the current trajectory continues, that you know, we'll be able to move into the next cycle of the economy and the cycle of potentially Fed rate cuts that could leave us virtually unscathed.
Speaker 2:Yeah, that no landing scenario may be coming back, but you know the sense of. You know there's the idea of you know a recession being something that you have to avoid at all costs. Obviously, you know when you're an economic policymaker in the government and I saw this close up there's an acceptance that there's a business cycle, right, and you know recession. I buy so many iPhones.
Speaker 2:Yeah, exactly as some of the impact can be, you know, from a sort of bloodless. You know spreadsheet and economic standpoint. It's hard to have a business cycle if you don't have a recession and now and then. And so you know the idea that the economy can slow down and whether it's a, whether it's a, you know, a moderate recessionate recession that the Fed cuts its way out of and maybe there's a fiscal response, depending on how the election shakes out in the White House and Congress, that's not. It's not the end of the world. And to have, and thinking back at 2008, there's a sense that you can't have a recession without some sort of cataclysm. You know that shakes the world. You know financial markets, but that's not necessarily true. You can have a normal garden variety recession.
Speaker 3:I think you need that to have a severe recession, yeah, but since the financial crisis.
Speaker 3:you know, not just the US economy, the world economy has been very steady. You know we grow at two percent. So I feel like we almost have to redefine what the definition of a recession is for the general person on the ground. You know, like one percent growth could feel a lot worse than than normal, because you've never really experienced what it is to have negative 1% growth and I think that comes through in a lot of the surveys and things like that Like if everything's not perfect, we just say, oh, it's a recession. You know, and there's a lot in between a recession and just normal. You know trend growth, but you know if you're losing your job, that's a recession. It doesn't matter if someone else has a job.
Speaker 2:And if you're the Trump team, obviously you want a recession, right? You wish you had the recession starting, you know. He's pretty upfront about it. But you know essentially like from political. You know whichever candidate you are, you would want a recession to hit at the beginning of your term.
Speaker 1:Right, you can blame it on the other guy. You can end on the upswing in the business cycle.
Speaker 2:Is that the Absolutely yes, you know start on the low, it'll be boom time. Absolutely. It's even more so for a Trump second term, obviously because he's got such a stimulative bent to his economic packages.
Speaker 2:It's all gas, no brakes, and so if yeah, which looks inappropriate if the economy is strong or even kind of stable, with like kind of dormant inflationary pressures. But if you're in a recession then it looks a lot more appropriate. And for President Harris if she's elected she wouldn't get the same kind of blame for a recession that shows up early in her term and it could certainly give her more leverage in terms of getting some of the social programs she wants in place. If people across policymakers across the spectrum are hearing it from their constituents, so it wouldn't be the worst thing politically. But obviously you have to assess and realize the human cost of recession is real.
Speaker 1:We're all jaded. Jaded Beltway veterans, you know, reminds me of the old adage never let a good crisis go to waste right Never let a good recession go to waste.
Speaker 1:I'm sure that is the motto of many a political candidate. John and Brendan, thank you so much for joining me again today. It was great to have you guys back on To hear more from John and Brendan. Thank you so much for joining me again today. It was great to have you guys back on To hear more from John and Brendan. We encourage you to tune in to their podcast on markets policy partners, called the Macrocast, which breaks down the news of the week at the intersection of markets policy and economics, and to our listeners. You can remember to like and subscribe wherever you listen to your podcasts and to follow us on Twitter, slash X at PentaGRP and on LinkedIn at PentaGroup. I'm your host, ilan, and, as always, thanks for listening to what's at Stake.