On Monday, Former Fed Governor Bill Dudley wrote an editorial for Bloomberg that most notably said, “Maybe monetary policy isn’t all that tight…Large and chronic fiscal deficits, together with public subsidies for green investment, have pushed up the neutral interest rate. If so, the Fed should hold rates higher for longer.”

Dudley is saying what markets have already told us. The seven Fed cuts that were previously priced into the market have moved closer to three. A March cut seems to now be completely off the table and even May is less than 50/50.

Former Treasury Secretary Larry Summers made headlines last week when he said there was at least some chance that the Fed’s next move would have to be an increase in the Fed Funds Rate.

At some point last year, it should have become clear to every market participant that this cycle would be different than previous cycles because of the unprecedented amount of fiscal stimulus, the unprecedented tightness in the labor market and the relatively weaker or severely delayed impact of a tightening monetary policy.

 That stimulus is not going to just fade away. Those “public subsidies” referenced by Mr. Dudley are funding massive long-term projects that take many years to even break ground. Our stimulative fiscal deficits aren’t going to fade away either as the CBO recently estimated deficits of $2T or more for years to come. Labor, while slowing, remains tight enough to keep wages running at over 5% and the unemployment rate at well under 4%.

Today’s Fed minutes reinforced the idea that the Fed will need to see a weaker economy, tighter financial conditions, and a resumption in the downward trend of inflation before making any changes. A couple of the key summary phrases from the minutes were, “Several noted potential risks from easier financial conditions…Most officials noted risk of cutting too quickly…Some officials saw risk inflation progress could stall.” Given the recent upside surprises to CPI, PPI, import prices and the prices paid component of both the NY and Philly Fed Manufacturing indexes, we probably shouldn’t be too surprised by the Fed’s reticence to cut.

The good news is that the reason why the Fed isn’t in any hurry to cut is that the economy continues to grow. One of our “Ten Variant Views for 2024” was a higher for longer environment that would beget only three or less cuts from the Fed and we continue to be of that view. We see sideways for the Fed at current rates and probably sideways to slower for the US economy at somewhere between 1 and 2% Real GDP/GDI. Not exactly Goldilocks, but immaculate disinflation was always a fairytale. 

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