Image Source: Pixabay

I left last week’s Federal Reserve conference call with the impression that nothing had changed. I did not hear any new news. Yet, the post-Fed celebration in the stock market continues at the time of writing. While oversold conditions likely primed the pump for the rebound, the enduring nature of the narrative on monetary policy made me wonder what I missed. For this particular review of the Fed, I reached out to generative AI for assistance. I used Google’s experimental NotebookLM as a partner to query the language in the transcript of the conference call; NotebookLM is free and can accommodate all the text in the Fed transcript. I hoped to uncover the secret message that markets saw, but I failed to see or hear. Instead, NotebookLM essentially agreed with my original assessment of the Fed’s message.

Monetary Policy Question and Answer with an AI

The following question and answer with the generative AI in NotebookLM is like a poor man’s substitute for the Fed’s official Q&A session. Each section of dialogue below starts with a quote from Fed Chair Jerome Powell, followed by my question, and then NotebookLM’s response. All quotes are verbatim with some caveats on NotebookLM’s response in curly brackets.

Powell: “We are committed to achieving a stance of monetary policy that is sufficiently restrictive to bring inflation sustainably down to 2 percent over time, and to keeping policy restrictive until we are confident that inflation is on a path to that objective.”

Me: “Does Powell express any confidence that inflation is on the path to meeting its objective of 2%?”

NotebookLM: “No, Powell does not express any confidence that inflation is on the path to meeting its objective of 2%. He says that the Fed will continue to raise rates until inflation is under control, and that the two conditions that would lead the Fed to stop raising rates are (1) if inflation is on a path to the Fed’s 2% target and (2) if the labor market is continuing to broadly cool off and achieve a 4% unemployment rate. He does not say that either of these conditions are likely or happening now.” {That second condition is not a direct quote from the transcript. I assume NotebookLM picked up this inference from an external source and analysis. The 4% target is not from the Fed although the Fed does expect to see, and wants to see, some cooling in labor markets as a way to cool inflationary pressures.}

Powell: “We are attentive to recent data showing the resilience of economic growth and demand for labor. Evidence of growth persistently above potential, or that tightness in the labor market is no longer easing, could put further progress on inflation at risk and could warrant further tightening of monetary policy.”

Me: “What evidence does Powell cite to demonstrate that recent data show the resilience of economic growth and demand for labor?”

NotebookLM: “Powell cites the following evidence to demonstrate that recent data show the resilience of economic growth and demand for labor:

• GDP growth: Powell cites the strong third quarter GDP figures as evidence that the economy is continuing to expand at a strong pace.
• Employment: Powell notes that the labor market remains very strong, with job openings and labor demand still clearly remaining very strong.
• Inflation: Powell acknowledges that inflation is still high, but he argues that the recent data show that inflation is beginning to moderate.”

Powell: “As for the Committee, we are committed to achieving a stance of monetary policy that’s sufficiently restrictive to bring inflation down to 2 percent over time. And we’re not confident yet that we have achieved such a stance.”

Me: “Does the lack of confidence in achieving a sufficiently restrictive monetary policy leave open the possibility for future rate hikes?”

NotebookLM: “Yes, the lack of confidence in achieving a sufficiently restrictive monetary policy leaves open the possibility for future rate hikes.” {The rest of the response provided an incoherent timeline of Fed action}

Powell: “…the way we’re going to be going into these future meetings is to be just determining the extent of any additional further policy tightening that may be appropriate to return inflation to 2 percent over time” (Powell later reemphasized “it’s fair to say that’s the question we’re asking is, should we hike more”)

Me: This statement suggests that the Federal Reserve has a bias toward hiking rates again. What do you think? Explain your reasoning.

NotebookLM: “Yes, Powell’s statement suggests that the Federal Reserve has a bias toward hiking rates again...However, it is important to note that Powell also said that the Fed will “be humble” in its approach to raising rates, and that it will “listen carefully” to the data. This suggests that the Fed is not committed to a specific path for rate hikes, and that it will be willing to adjust its plans if necessary.” {Rest of answer repeated incoherent timeline even after I asked for a different explanation}

Powell: “the Committee is not thinking about rate cuts right now at all. We’re not talking about rate cuts, we’re still very focused on the first question, which is; have we achieved a stance of monetary policy that’s sufficiently restrictive to bring inflation down to 2 percent over time, sustainably? That is the question we’re focusing on. The next question, as you know, will be for how long will we remain restrictive?”

Me: “How would you assess the odds of a rate cut anytime soon based on this comment and the rest of the transcript?”

NotebookLM: “The odds of a rate cut in the near future are low.

• Powell said that the Committee is not thinking about rate cuts right now at all.
• The Committee is focused on bringing inflation down to 2 percent sustainably.
• The Committee will consider a rate cut if inflation comes down and remains low for an extended period of time.

However, it is important to note that the Committee is also considering other factors, such as the strength of the economy and the labor market. If the economy slows down or the labor market weakens, the Committee may be more likely to consider a rate cut.”

I selected quotes that I thought were most likely to produce some insight into the market’s excitement over the prospects for monetary policy. So just to be thorough, I asked NotebookLM one last question: “Is there anything in this transcript that even hints at the possibility for easier monetary policy in the near future? What about prospects for an end to rate hikes? Explain your reasoning only using content from this transcript.”

NotebookLM concluded: “There is no indication in this transcript that the Fed is considering easier monetary policy or an end to rate hikes.” Its explanation was a repeat response to my previous question.

The Persistent Longing for Easier Monetary Policy

With just two months left in the year and earnings season nearing an end, eyes and prognostications turn to 2024. Year-to-date performance remains positive but the market’s three most dangerous months of the year stained market sentiment. Thus, the persistent longing for easier monetary policy is taking on a new urgency. A recent example came from Goldman Sachs (GS) in predicting a strong year for IPOs in 2024. The main reason for the optimism? Rate cuts! From the Yahoo Finance article “The ‘real IPO reopening’ is coming in 2024: Goldman Sachs“:

“Bruun’s case for IPOs to reemerge stems from a core stance repeated throughout Goldman’s 2024 outlook roundtable on Tuesday: The Federal Reserve will cut rates in 2024. And history says that’s usually an opportune time for the IPO market.

‘When expectation moves such that people are anticipating rate declines and are starting to see rates come down, that’s usually when IPOs open up,’ Bruun said.”

This kind of persistent longing for easier monetary policy is likely to pervade financial markets as the assumption of an end to rate hikes takes deeper root in market sentiment and psychology. If rate hikes have ended then, logically, rate cuts must be imminent.

Still, the Fed will also persist in doing what it can to prevent the market from getting ahead of the Fed’s desire to keep driving inflation to its 2% target. I fully expect Fed jawboning in coming weeks and months to do its best to work against the notion that easier monetary policy is on its way soon. Currently, Fed fund futures do not anticipate any more rate hikes, and the first rate cut comes in June. Both projections are the exact same as they were before the November 1st meeting. Thus this lack of change still has me scratching my head about a renewed excitement over the prospects for monetary policy. From the CME FedWatchTool (the blue boxes indicate the market’s projection for the most likely target for the Fed’s interest rate range the given meeting date in the first column):

The S&P 500

Finally, here is a close-up of the daily trading action in the S&P for perspective on the scale of the market’s recent excitement. Market breadth over this time period went parabolic. (image from TradingView.com)

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