Highlights From the June FOMC Meeting Minutes

Thrills, chills, and earth-shaking revelations

https://www.federalreserve.gov/monetarypolicy/files/fomcminutes20240612.pdf

Commentary

The release of the minutes from the June FOMC brought into focus three realities that will likely shock market participants once the realization becomes generalized.  First, behind closed doors FOMC participants are openly aware of, and concerned by, risks discussed in a recent note.  Second, there is a deep divide along partisan lines between hawks and doves on the Committee and Powell is dancing as fast as a man can to obfuscate.  Third, no matter what Powell said in the press conference, rate hikes are back on the table as a scenario the Committee must consider. 

The staff review acknowledged that financial conditions have eased “notably” since the Committee ended its tightening campaign.  The staff also accepts that economic slack is effectively zero at present and is likely to stay that way until 2026 under present circumstances.  However, the staff continues to project a decline in measured inflation in 2025 and 2026 with the magic two percent number achieved at the trailing end of the forecast, as per usual.  The staff notes that an inflation surprise to the upside would render invalid the sanguine assumptions of the forecast.

During the participant discussion the doves led the charge with an irrelevant recounting of the achievements thus far.  Participants advocating for an easy money approach listed a panoply of speculative reasons why they believe inflation outturns will continue moving lower.  Notable is a continued reliance on post-pandemic supply-side recovery and a new hope that artificial intelligence will magically save the FOMC from having to make difficult decisions. 

Unlike prior meetings in 2024, this meeting was marked by a strong and sustained hawkish argument which could not be credibly excluded or minimized in the minutes.  Hawks provided a laundry list of reasons above-target inflation could persist.  The items on the list were mostly related to the real economy but included the possibility that monetary policy has not been as restrictive as the Committee thinks.  The minutes include the assurance that the “most” participants think that policy is restrictive and, in the end, will win the day.  However, that assurance was immediately followed by the admission that “a few” participants reiterated their argument that the Committee was overestimating policy restrictiveness. 

Buried in the back of the minutes was the earth-shaking statement that “[s]everal participants observed that, were inflation to persist at an elevated level or to increase further, the target range for the federal funds rate might need to be raised.  That means rate increases are back on the table and that Powell was being very careful with his words when he said that rate increases were not the “base case” of any participants.  Consensus has been elevated to a level of holy reverence on the FOMC and, thus far, Powell has been able to corral the voting members into unanimous support for a policy of doing nothing.  As members increasingly decide that doing nothing is no longer an option, the illusion of consensus and unanimity will quickly melt away. 

Market conditions are far from settled and volatility will be the order of the day once the divide within the committee becomes obvious to market participants.   The path chosen by the committee will have near-term implications for real interest rates, and therefore risk markets.  The committee’s path in the near-term also has longer-term implications because of what it will say about the Fed’s position on financial repression in the face of massive government debt and rising inflationary pressure.  Will the stop-go policy of the inflationary 1970’s policy return, or will the political establishment take its medicine and support a determined fight against inflation by the central bank?  Only time will tell.

Staff Review

-- Financial conditions eased modestly over the intermeeting period mainly because of higher equity prices.  Taking a somewhat longer perspective, the manager noted that financial conditions had changed little since March but eased notably since the fall.

-- Responses to a survey about the spread between the effective federal funds rate and the interest rate on reserve balances…indicated considerable uncertainty and dispersion of views about when and how the spread would move as the sum declines.

-- Inflation was still expected to decline further in 2025 and 2026, as demand and supply in product and labor markets continued to move into better balance; by 2026, total and core PCE price inflation were expected to be close to 2 percent.

-- Risks to the inflation forecast were tilted to the upside, reflecting the possibility that more persistent inflation dynamics or supply-side disruptions could unexpectedly materialize.  Risks around economic activity were seen as skewed to the downside on the grounds that more-persistent inflation could result in tighter financial conditions.

Participant Discussion

-- A variety of factors contribute to continued disinflation in the period ahead. Easing of demand–supply pressures in product and labor markets, lagged effects on wages and prices of past monetary policy tightening, the delayed response of measured shelter prices to rental market developments, or the prospect of additional supply-side improvements.  Perhaps a boost to productivity associated with businesses’ deployment of artificial intelligence.

-- A few participants remarked that spending by some higher-income households was likely being bolstered by increasing asset prices.  In contrast, lower- and moderate-income households were encountering increasing strains as they attempted to meet higher living costs after having largely run down savings accumulated during the pandemic.

-- Some participants highlighted reasons why inflation could remain above 2 percent for longer than expected… worsening geopolitical developments, heightened trade tensions, more persistent shelter price inflation, financial conditions that might be insufficiently restrictive, or U.S. fiscal policy becoming more expansionary.  Several participants also cited the risk of an unanchoring of longer-term inflation expectations.

-- Participants noted that progress in reducing inflation had been slower this year than they had expected last December.

-- The vast majority of participants assessed that growth in economic activity appeared to be gradually cooling, and most participants remarked that they viewed the current policy stance as restrictive.  Some participants noted that there was uncertainty about the degree of restrictiveness of current policy.

-- Some remarked that the continued strength of the economy, as well as other factors, could mean that the longer-run equilibrium interest rate was higher than previously assessed, in which case both the stance of monetary policy and overall financial conditions may be less restrictive than they might appear.

-- Several participants observed that, were inflation to persist at an elevated level or to increase further, the target range for the federal funds rate might need to be raised.  A number of participants remarked that monetary policy should stand ready to respond to unexpected economic weakness.