FX market is getting a little more press these days because of the yen

Outlook: It doesn’t show up on the Econoday calendar but we get the US April flash PMI today. The Baker Hughes rig count this afternoon may be of more interest again.

Fed chief Powell seemed to endorse not only a 50 bp rate hike at the May meeting, but perhaps additional 50 bp hikes at the June and July meetings, too. See the CME Fed watch tool chart. It shows 49.8% of traders expect Fed funds to be at 2.75-3.0% by the December meeting, while 40.8% sees 3.0-3.25%–that bunch was only 4% a week ago.

Two things: weirdly, the 2/10 breakeven as reported by the St. Louis Fed fell to +0.22% yesterday from 0.39% on Monday. Apparently, the Powell remarks failed to move everybody. You’d think the yield curve would steepen. It’s still better than the negative 0.5% we had on April 1.

Also, critics point out that the Taylor Rule calls for Fed funds to be higher than the inflation rate, so with inflation at 8.5% (CPI version), Fed funds really should be 10%, or something. Let’s play our record again–with the Fed balance sheet at some $9 trillion after many years of QE, nobody knows where Fed funds “should” be, especially given a rapidly changing inflation rate. To use the Taylor rule, you need an established inflation real-data baseline. We don’t have that. Inflation was 4.2% a year ago in April 2021. It was steady at 5.4% all summer. Inflation started to go crazy only in October, and while it’s true the Fed was still talking about inflation being “transitory” in December, we can hardly take the newer numbers as a baseline for the Taylor Rule.

Inflation has become an obsession for everyone, down to the smallest details about supply chains in far-off places. An impressive chart is from Deutsche Bank, courtesy of the Daily Shot. In a nutshell, it shows inflation may reach up to near 10% near-term, but by year-end will fall back to under 6% and most of that is due to services.

On the whole, the big bank economists are awfully good, if a bit wordy. If this forecast is reasonably close to actual developments, decelerating inflation stops being a drag on growth, something the stock market will like. It may not be so hot for gold.

A big question is whether it slows down the Fed from what seems like a super-strong dose of hiking. We are leery of saying anything about the hypothetical schedule of rate hikes because when the time comes, it will be the end of QE that has more effect on just about everything, starting with yields and moving, via the banks, to economic activity. Frankly, my dear, we just don’t know. And we have to wait for June, presumably, to see that happening. If growth starts to fumble, we could catch the Japanese disease–weak growth and worries, again, about deflation. It may seem silly to speak of deflation when we still haven’t seen the expected inflation peak, but such an outcome is not totally ridiculous, and you can bet some backroom Fed economists have penciled it into the tail of a distribution curve.

The Economist has a scornful story about how the Fed failed, revealing again its fundamental anti-Americanism. It uses a picture of Benjamin Franklin, who favored a national bank but obviously never had anything to do with today’s Federal Reserve. The Fed’s “historic mistake” was failing to raise rates when the US Government was handing over a fortune in pandemic payments–really?

A commitment to full employment was catastrophic (and never mind it’s a Congressional mandate). “In September 2020 the Fed codified its new views by promising not to raise interest rates at all until employment had already reached its maximum sustainable level. Its pledge guaranteed that it would fall far behind the curve. It was cheered on by left-wing activists who wanted to imbue one of Washington’s few functional institutions with an egalitarian ethos.

“The result was a mess which the Fed is only now trying to clear up.” And its crystal ball was cloudy–it failed to see the end of the pandemic, or the invasion of Ukraine. Central banks need to stick to their knitting and turn away from non-essential issues like climate change. The whole thing is biased and shameful. Meanwhile, the ECB’s Lagarde and BoE’s Bailey will speak this morning about monetary policy. Again we warn that what they say in big forums like G7/G20 can be overvalued and what counts is what they do. Various members in both central bank policy committees are talking up rate hikes while the leaders are not denying it, but words are not deeds. We suspect that weaker growth in both places is going to stay central banks hands. Markets want hikes. Markets crave hikes. They expect hikes but are willing to accept later hikes over no hikes at all. This is hardly a good reason to go long the pound and euro.

Finally, consider that the FX market is getting a little more press these days–because of the yen. After flirting with 130, it fell back and we wrongly expected a bigger pullback. But no, yesterday the dollar recovered its moxie and rose a bit, if without much gusto. Bloomberg and Reuters tried to beef up the intervention story–and Reuters has a dandy timeline of BoJ interventions. But there is practically nothing to report. Yellen and Suzuki spoke about the yen but in the end, all be got was the standard G7 oatmeal that markets should determine rates and excess volatility is a bad thing.

As noted before, the yen is actually doing what G7 wants it to do–following monetary policy. If Japan wants a stronger yen, it can change policy. But it is clinging to curve control and even extended the commitment to buy bonds out to next week. This reminds us that 130 is no line in the sand that the BoJ will protect with intervention, at least not with the blessing of other G7 central banks and finance ministries. It also reminds us that lines in the sand get broken quite a lot.

To illustrate, see the quarterly chart. We had moves like 277.65 in 1982 to 86.20 in 1995. We also had 86.20 in 1995 to 146.78 in 1998, or a dollar gain of 70%. If we consider the recent baseline starting in 2015 to January this year at about 108, a 70% gain would bring us to 183.60. In other words, it has happened before. We are not alone in these musings. A big bank that shall remain unnamed recently published a piece mentioning numbers like 150. Why not? The market punishes the maverick policy.

Tidbit: If you would like a thorough examination of inflation/recession/stagflation.

Tidbit 2: Still think crypto is a dandy substitute for money? The WSJ reports that over the weekend, a hacker stole $182 million from a crypto named Beanstalk, the 5th largest heist. There is now a hack a week this year but the amounts are getting bigger. “Since August, there have been 37 hacks in 38 weeks that have drained about $2.9 billion worth of cryptocurrencies. That is on par with the $3.2 billion stolen in all of 2021, according to analytics firm Chainalysis.”

Whatever its faults, conventional money is safer from robbers. Bank robberies are in the thousands, but the average take is under $5000, the FBI is on every case, and most of all, cash deposits are insured.

This is an excerpt from “The Rockefeller Morning Briefing,” which is far larger (about 10 pages). The Briefing has been published every day for over 25 years and represents experienced analysis and insight. The report offers deep background and is not intended to guide FX trading. Rockefeller produces other reports (in spot and futures) for trading purposes.

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