Fed minutes show inflation risks are skewed to the upside

Image courtesy of Fed Board of Governors, Text by Mish from Latest Minutes

Minutes of the Federal open market committee

Please consider the Minutes of the FOMC May 2-3 Meeting. 

Notably, the Fed is sticking with an over-optimistic economic outlook. The staff anticipates “GDP growth would rebound in the second quarter and advance at a solid pace over the remainder of the year.”

On retail sales, “participants indicated that they expected robust growth in consumption spending. They pointed to several elements supporting this outlook, including strong household balance sheets, wide availability of jobs, and the U.S. economy's resilience in the face of new waves of the virus.”

“All participants concurred that the U.S. economy was very strong, the labor market was extremely tight, and inflation was very high and well above the Committee's 2 percent inflation objective.”

The Fed is drinking Kool-Aid. A recession is baked in the cake, and obviously so. 

But the Fed cannot admit that. Given the stated nonsense on a “strong economy” perhaps a clueless Fed does not even see a recession.

At best, the Fed masks its outlook with a discussion of risks.

Risk discussion

• Participants judged that the implications for the U.S. economy were highly uncertain. 
• Some participants noted that their business contacts had reported an easing of supply constraints, participants assessed that supply constraints overall were still significant and would likely take some time to be resolved.
• Participants observed that inflation continued to run well above the Committee's longer-run goal and that inflation pressures were evident in a broad array of goods and services. 
• Participants agreed that risks to inflation were skewed to the upside and cited several such risks, including those associated with ongoing supply bottlenecks and rising energy and commodity prices
• Several participants who commented on issues related to financial stability noted that the tightening of monetary policy could interact with vulnerabilities related to the liquidity of markets for Treasury securities and to the private sector's intermediation capacity.
• “Participants observed that developments associated with Russia's invasion of Ukraine and the COVID-related lockdowns in China posed heightened risks for both the United States and economies around the world.”
• “In light of continuing inflation risks, members judged that it would be appropriate for the postmeeting statement to note that the Committee is highly attentive to the upside risks to inflation.”
• “Regarding risks related to the balance sheet reduction, several participants noted the potential for unanticipated effects on financial market conditions.”
• “With regard to funding risk, the staff highlighted structural vulnerabilities in some types of mutual funds as a continuing focus.”
• “The staff noted that increased uncertainty and ongoing volatility had reduced risk appetite in financial markets and eased price pressures, although valuations of many assets remained elevated.”
• “The staff continued to judge that the risks to the baseline projection for real activity were skewed to the downside and that the risks to the inflation projection were skewed to the upside.”

On rate hikes and quantitative tightening (QT)

• “All participants reaffirmed their strong commitment and determination to take the measures necessary to restore price stability.”
• Participants agreed that the Committee should expeditiously move the stance of monetary policy toward a neutral posture, through both increases in the target range for the federal funds rate and reductions in the size of the Federal Reserve's balance sheet.”
• “Most participants judged that 50 basis point increases in the target range would likely be appropriate at the next couple of meetings.”
• “All participants supported the plans for reducing the size of the balance sheet. This reduction, starting on June 1, would work in parallel with increases in the target range for the policy rate in firming the stance of monetary policy. 
• “A number of participants remarked that, after balance sheet runoff was well under way, it would be appropriate for the Committee to consider sales of agency MBS to enable suitable progress toward a longer-run SOMA portfolio composed primarily of Treasury securities.”

Words of the day are risk and inflation

The word “risk” appeared in the minutes 31 times. The word “inflation” appeared 66 times. 

The text is a warning sign to the markets the Fed intends to hike until inflation is under control. 

Sales of agency MBS (mortgage-backed securities) is a warning to the housing markets that the Fed is willing to sell its mortgage portfolio which would drive mortgage rates higher. 

Given all the lovey-dovey projections, the Fed either does not see a recession or is warning that inflation, not recession, is its focus. 

To repeat “Risks to the baseline projection for real activity were skewed to the downside and that the risks to the inflation projection were skewed to the upside.”

Finally, please note the warning “valuations of many assets remained elevated.”

No kidding, but guess who is largely responsible for that. Meanwhile let's look at recent data. 

New Home Sales plunge 22.5% in April, 16.6% from deep negative revisions

New home sales have peaked this cycle and the bottom is nowhere in sight.

For discussion, please see New Home Sales Plunge 22.5% In April, 16.6% From Deep Negative Revisions

Expect negative Retail Sales revisions

On May 13, I commented Retail Sales Easily Beat Expectations, US Treasury Yields Jump in Response

I was really scratching my head over that until the following day when I commented Target Plunges 25%, What About Yesterday's Big Retail Sales Blowout?

The advance retail sales reports by the commerce department were stunning. Reports by Target and Walmart strongly suggest something else.

Walmart and Amazon both reported being overstaffed in the first quarter.

Expect negative revisions, pretty much everywhere.

Question of the day

Is the Fed pretending the economy is strong or are they as clueless as they sound? The latter will lead to a policy error in the opposite direction.