Fed is in a hurry to raise rates and reduce balance sheet



2022/01/06

Fed is in a hurry to raise rates and reduce  balance sheet

And now the Fed is in a hurry to raise rates. Not only that: the Fed is also in a hurry to get on a diet, starting to reduce that monstre balance sheet inflated by the trillions of assets that it itself has bought to shield the markets. A balance sheet that is now worth $ 8.8 trillion, 'thanks' to the abnormal amount of Treasuries and mortgage-related assets that the central bank has stockpiled in recent years, through the adoption of a monetary policy that has been branded by most critics as a drug or monetary drip that has distorted-inflated the value of stocks and bonds.

But now the economy is solid and, above all, inflation in the United States gallops at a pace that, evidently, is no longer considered sustainable Byer

U.S. inflation as measured by the Consumer Price Index is at a record high for 39 years, while inflation as measured by the producer price index jumped 9.6 percent in November, at a record pace ever. And the Fed's preferred benchmark, namely the PCE-Personal Consumption Andend

This, in the face of a labor market that has resumed marching in recent months, with the reopening of the post-Covid economy: so much so that Poell

So why wait?

The Fed realizes that it can no longer do so, unless it risks the US economy overheating. This haste was certified by the minutes of the FOMC, the monetary policy arm of the institution, which were released yesterday, and which are related to the last meeting of 2021, when the markets had already understood how Poellell, until recently dovish, was actually pawing to say enough about the wave of liquidity launched in the darkest period of the Covid-19 pandemic, that is, in 2020.

Already absent from the communique of that meeting was the adjective "transitional", which had accompanied up to that point the term inflation. Er name Poellell had already warned the markets a few days of the possibility of that adjective disappearing.

At the same meeting, the last of 2021, in the face of fed funds rates left unchanged in the range between zero and 0.25%, the Federal Reserve announced a sharp acceleration of tapering, the program of reducing asset purchases that the central bank carries out every month, a sort of turbo-tapering.

In this way Poellell made no secret of a certain anxiety to proceed more quickly to the withdrawal of the extraordinary measures of anti-Covid stimulus-bazooka previously launched. The FOMC dot plot also showed that the Fed was now ready to raise fed funds rates up to three tight in 2022.

But the minutes just released were still a shock to the markets, presenting an even more Haish

In addition to faster tapering, it emerged that FOMC members also discussed in December the possibility of raising fed funds rates earlier than previously anticipated or at a faster pace. Not only that. There is an urgent need to start scaling back the Fed's balance sheet.

"Participants generally noted that, given their individual projections on the economy, the labor market, and inflation, it may be justified to raise rates early or at a faster pace than participants themselves had anticipated previously, some participants also noted that it may be appropriate to begin reducing the size of the Federal Reserve's balance sheet relatively early, after starting to raise fed funds rates,"the Fed said.

More aggression in raising rates + a reduction in the balance sheet that is likely to begin shortly after the first monetary tightening: a perfect explosive Mi per

In the minutes we read again "the participants remarked that the current size of the budget is substantial and that it will probably remain so for some more time while the process of the normalization of the budget itself will be in place". "Almost all participants felt that it would probably be appropriate to start reducing the balance sheet at some point after the first rate hike," he said.

The shock in the markets was explained to Cnbc by Hat Hatfield, ceo of Infrastructure Capital Management, who called the reduction of the Fed's balance sheet "the key risk of the year".

"If the Fed starts to reduce its balance sheet, it will be a disaster," Hatfield said. "I think the balance sheet (this year) will be left unchanged, but it is possible that it will also be reduced, in the event that inflation is really high," he said.

And if this happens, for Hatflied it means that "not only will the Fed not inject more liquidity, it means it will also start draining it. And no one wants to bet on the stock market if the Fed starts sucking up liquidity….it's like betting on Coca Cola if buff

Kathonesones, chief fixed income market strategist at Charles Schab Last time - recalled J This time, it seems that they are ready to act".




Stock Market Reaction

Stock and bond markets reacted immediately: the Doonesones, in particular, closed in the red for the first time since the beginning of 2022, falling almost 400 points (-392.54 points), or 1.07%, to 36,407.11 points,after setting a new Intrada record all'strong in almost a year, or since February 2021,slipping by 3.34% to 15,100. 17.

In Asia, the Nikkei 225 index of the Tokyo Stock Exchange fell 2.88% to 28,487.87 points after the sell-off on the US stock exchange. Strong demobilization also on other major Asian stock exchanges.

Down the European stock market and, in particular Piazza Affari, which saw the Ftse Mib slide up to -1.5% in the first minutes of the session, thus losing 28,000 shares after, yesterday, the index had closed 0.74% ahead at 28,162 points, updating the closing highs to over 13 years.

The benchmark European stock index, the Stoxx 600, lost about 1.4%, weighed in particular by technology stocks, with the benchmark sub-index falling by almost -3%.

U.S. Treasures

The Fed minutes also knocked out the US Treasuries market, with ten - year bonds - already back from the record start of the year in 20 years-running again, after the short break at the beginning of the session, up to 1.70%. Two-year rates rose about 5 basis points to 0.82%.

Technology stocks have capitulated again, as the future earnings of their companies tend to become less attractive to investors in a higher interest rate environment. And in a context where high finance is betting on further growth.

In the list of the top 10 surprises for the markets of 2022 Bronron R. Wien and Z Ed Zidle, Vice President and chief investment strategist of Blackstone's Private Solutions Group division, respectively, wrote that, in their view, "the bond market will begin to respond to rising inflation and Fed tapering, with 10-year Treasuries rates rising to 2.75%. "The Fed will complete its tapering and raise rates four times in 2022.

Ian LG Ngen, head of the US rate strategy division at BMO, believes that "optimism about the economy against a backdrop of inflation concerns will drive ten-year rates to 2% during the first quarter", and that "from there it will be the economy and the Federal Reserve who determine how high they will rise again".

Commenting on the minutes, Bloomberg economist Elene Shul Shatebaeba also noted that "the words of the FOMC representatives on the labor market suggest that, in their opinion, the economy is very close to maximum employment or that it has already reached it".

As a result, "it is possible that the economy has hit the full employment target early, in the face of a lower labor force than previously anticipated, which means that there is a need for a more restrictive policy earlier than anticipated".

It is worth highlighting how the Fed does not fear Omicron at all or, in any case, does not see it as hindering, at least for now, the new era of monetary policy that it has decided to inaugurate, despite the number of daily infections in the United States has exceeded 1 million. Moreover, Opec + is not afraid of Covid either, which has confirmed its strategy, convinced that the negative impact of the variant on global oil demand will be short-lived.

Michael Zippo
https://linkedin.com/in/michael-zippo-9136441b1
[email protected]

Sources: federalreserve.gov





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