Gold Silver Reports (GSR) – President Donald Trump is going where he’s not supposed to once again, criticizing the Fed and his hand-picked chairman, Jerome Powell. In this case, he’s got a point: The Trump Fed has sped up its rate-hiking plans to offset the Trump tax cuts, even though policymakers expect economic growth to slow. The bond market, via the flattening Treasury yield curve, is worried too.
Trump told CNBC last month that he wasn’t happy about the succession of Fed rate hikes. The president reportedly doubled-down on his Fed criticism at a weekend fundraiser. Trump told Reuters in an interview released Monday he’s “not thrilled with his raising of interest rates, no. I’m not thrilled.”
Unless Powell takes an unexpected dovish turn in Friday’s speech at the Fed’s annual monetary policy meeting in Jackson Hole, Wyo., Trump may not be able to hold his tongue — or tweets.
Treasury Yield Curve Flattens Further
Trump’s case against the Fed seems to have some pretty potent supporters — including the bond market. On Monday, the gap between the 2-year Treasury yield and 10-year yield narrowed to just 23 basis points, the smallest since the lead-up to the 2007 recession.
The flatter Treasury yield curve arguably reflects investors curbing their expectations about the strength and durability of the nascent Trump economic boom, with tighter Fed policy as a prime reason.
To some analysts, the flattening yield curve is a cause for concern that the yield curve will invert, with long-term yields falling below short-term yields. That’s a reliable precursor of recession. But Powell and most other Fed policymakers have mostly shrugged off the concern, suggesting this time is different because of low global interest rates.
With the economy clearly accelerating in the second quarter, the Trump Fed hiked rates in June for the second time this year. At the time, policymakers signaled expectations for two additional hikes in 2018. That’s a dramatic change from just a year ago. Last August, before inflation data started to firm, markets priced in just one quarter-point rate hike over the coming 12 months.
Policymakers are treating the stimulus-fueled burst of growth, from tax cuts and higher federal spending, as the new normal. But as that fiscal boost flattens out by the middle of 2019, monetary policy likely will get too tight for the underlying economic conditions.
Fed Lifts Dollar, Hurts Emerging Markets
As U.S. growth surges above the rest of the developed world, rising interest rates and widening deficits are pushing the dollar higher. The strong dollar also is making Trump unhappy, though he’s blamed it more on other countries like China trying to weaken their own currency for a trade advantage. China, in turn, has blamed the sinking yuan on Trump tariffs and the escalating trade war.
Yet the rising dollar is widely seen as a negative for global growth because emerging market economies often depend on dollar-denominated debt. That debt gets harder to repay as the greenback appreciates. This explains why the Fed is, more or less, the world’s central bank. The Trump Fed didn’t cause the emerging market crises in Turkey and Argentina, but it’s making things worse by making global monetary policy tighter.
Trump told donors that he thought he had selected a Fed chair who would continue relatively easy-money policy. Yet the Fed has taken hawkish turn that seems hard to justify. Fed policymakers see little risk that inflation will break out to the upside. After a burst of growth this year, they expect the economy to rapidly decelerate back to the old normal, according to their projections. However, Chicago Fed President Charles Evans, long seen as a very dovish policymaker, explained recently that the Fed needs to raise rates to a “somewhat restrictive” level.
The Fed seems to be targeting the potential for financial excess — i.e. high asset prices — that crashed the economy in 2007 but that appears to be much more contained in this cycle, according to Powell and others.
The last thing Trump wanted in a central bank chief was someone who would speed up Fed rate hikes to stem a tax cut-fueled economic surge. That’s exactly what he got, yet it seems only a matter of time before the Trump Fed begins to retreat from the peak hawkishness.