Fed Didn‘t Tame Inflation

As resilient as it had been before Wednesday, S&P 500 met selling pressure on Friday, including the best performing tech sector. Bullard‘s comments on the „inflation surprise“ and first-rate hike before 2022 is over – are they full of hot air, testing the waters before taper, or serious intent? Given the ease with which precious metals and then select commodities such as copper or soybeans tumbled, rate hikes might appear to be baked in the cake now – but in reality, it‘s the unyielding inflation that would prove rather persistent than transitory.

The Fed did the bare minimum, acknowledging inflation in passing, implying it would go away on its own. But it‘s more complicated than that – bank credit creation isn‘t strong, and had been declining before bond yields bottomed in Aug 2020. Are banks reluctant to lend, or customers to borrow? The result of production not ramping up as wildly as expected (reopening trades) is compounding the disturbed supply chains and commodity prices rising (cost-push inflation). Add to that job market pressures, and you have a recipe for inflation being more transitory than originally thought. In other words, cyclical and structural as import-export prices hint at too..

Money in the system isn‘t flowing into production or capacities expansion – inventories have instead been drawn down, and need to be replenished. Just as I have written the prior Monday, that would be putting upside pressure on prices as much Europe awakening or hard-hit countries such as India springing back. So, fresh money results in excess liquidity, trapped in the system and flowing to bonds, which explains the Fed‘s need to act and fix repo rate at 0.05%. So much for the recent spike in Treasuries – this whiff of „almost deflation“ has it wrong, and yields will revert to rising – regardless of when exactly (or if) other parts of the intended $6T stimulus package get enacted.

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