Goldilocks Growth Economy

Macro Perspectives: Thu 18 Mar 2021

The Fed held the line, sticking with its well advertised position: "petal to the medal" monetary policy, pumping money into the economy alongside an unimaginably huge fiscal spend, all the while pretending they have no concern about troubling inflation coming down the line.

The Fed sees 6.5% growth this year with 4.5% unemployment - that would be three-times 2019 growth. Yet, they see inflation at a very tame 2.4% - that's quite a bit lower than the average long run inflation rate (of 3.1%).

Note however, the Fed isn't telling us that we are in a Goldilocks growth economy, they are just refusing to give any indication to markets that they will take the punch bowl away.

With that, the response from markets: risk assets go up - stocks hit new record highs. But gold went up and the dollar went down. This is a signal that markets see through the Fed's messaging.

Expect this direction in gold (up) and the dollar (down) to continue, as the posturing by Powell and company continues to put the Fed at risk of getting a negative surprise on inflation, and getting a late start on fighting it (i.e. behind the curve).

After yesterday, I suspect the bond vigilantes will go to work, selling Treasuries, pushing market interest rates higher – testing the Fed. That will tighten financial conditions, threaten a slowdown of the economy and force the Fed to act - likely with the "Operation Twist" program we've been discussing.

This type of response from the Fed would keep the fire under growth (still fueling asset prices), but it would also mean even hotter inflation lurking around the corner.