As Yellen Rides Into The Sunset, An Odd Market Environment Exists Where “Phillips Curve Is Dead”

When Janet Yellen took the podium for her final news conference earlier this week, there were several oddities. Not only was she a rare Fed chair who did not get re-appointed after achieving arguably strong economic performance – unemployment dropped, inflation remains subdued and the stock market did not crash as quantitative stimulus was extracted – but there were other oddities. In proclaiming the “Phillips curve dead,” Bank of America Merrill Lynch categorized the Fed raising interest rates as being interpreted as “dovish.”

Phillips Curve is dead: Also, night is day and white is black

The Fed “failed to think tax reform leads to higher inflation,” BAML credit strategists Hans Mikkelsen, Yuriy Shchuchinov, Yunyi Zhang observed of the Wednesday move FOMC to notch interest rates slightly higher, 25 basis points. They point to interest rates declining five to six basis points across the yield curve after the afternoon decision buttressing the “dovish” interpretation of the move.

“While that sounds bullish for credit spreads we think it is not, as yields are getting to levels that are sidelining investors,” the report noted. “Hence the lack of post-FOMC tightening of credit spreads. What we think is needed for further spread tightening is more positive news on inflation, which would lead to higher interest rates across the maturity spectrum.”

The US dollar also “got crushed” after the Fed rate announcement, down 69 basis points. Rising interest rates are often considered a catalyst for a higher currency in the sovereign region in which interest rates are rising.

With the dichotomy of a dovish rate rise in place amid pending fiscal stimulus in the form of a tax cut on the horizon, when might inflation rear its head?

Mikkelsen, Shchuchinov, and Zhang think inflation could start to surge as early as the first half of 2018. If this occurs it could mean that the stimulative impact of tax cuts might be offset by central bankers raising interest rates intent on cooling economic activity – either that or central bankers want to “reload” their toolkit in case it is needed to combat an unexpected economic or geopolitical market shock.

1 2
View single page >> |

Disclaimer: This article is NOT an investment recommendation,  please see our disclaimer - Get ...

How did you like this article? Let us know so we can better customize your reading experience. Users' ratings are only visible to themselves.


Leave a comment to automatically be entered into our contest to win a free Echo Show.