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The Fed wants it all

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Good Morning. Wednesday was a good day for formality. A day after Unhedged wrote about the epic collapse of the Chinese stock market, a fuzzy Deputy Prime Minister Liu H.’s statement on “positive market policy” provoked an angry rally. Across the Pacific, the Fed has signaled a series of price increases and the market has risen nicely. Economic foundations declined to comment. Email us: robert.armstrong@ft.com and ethan.wu@ft.com.

The Fed wants to stop inflation without firing anyone

In January, Jay Powell promised He would keep track of the data, and since then the inflation calls have come hot and sticky. Yesterday, the Fed chairman kept his promise with a major change in the central bank’s policy. Expect seven interest rate hikes of a quarter of the year; the balance sheet reduction will also begin soon, perhaps in May.

Below are “dot plots” that show the expectation of each Fed board member where the interest rate is going. Left side from December, and right from yesterday:

The columns for 2022 show Fed members updating their forecasts from a median policy interest rate of 0.9% to 1.9. Importantly, expectations for 2023-24 have also risen above the expected rate for the “longer term.” As Morgan Stanley’s Jim Caron explained:

The surprise from the Fed meeting was their median forecast for policy interest rates to reach 2.8% in 2023 and also in 2024, which exceeds the neutral interest rate forecast of 2.4%. This represents a change in their communication in that they are signaling a move towards tightening financial conditions instead of just switching to neutral.

This year’s inflation data have made the claim of a decisive tightening. Higher prices seep into more sticky areas like toilets and renting. The predictions that easing supply conditions will calm inflation have not yet materialized, as Powell noted at his press conference:

For the help we expected, and other forecasters we expected, from supply side improvements, labor force participation, bottlenecks [getting better] Not reached.

How fast to tighten? On this question Fed officials are more divided than ever. St. Louis Fed President James Bullard called for a half-point raise at a meeting yesterday, even though he was alone in his opposition. But the board’s range of views on the appropriate number of rate hikes has exploded:

A line chart of Fed officials' tariff forecasts has become very scattered and shows resistance in the ranks

In a moment of great uncertainty, like the Russian war Reshape the world Following an epidemic, this should come as no surprise.

Shares, after spending weeks in a state of worry, were pleased with the Fed’s message. A slight increase raised the S&P 500 by 2.2% and the Nasdaq by 3.8. The yield curve sent a more muddy mark, ending flat. The 10-2 yield gap is only 25 basis points from a reversal, suggesting a higher probability To recession.

A notable feature of the Fed’s more vigorous approach to inflation is that both the chairman and the board think inflation can be lowered without giving up any of the recent rises in the labor market. Which creates the potential for the economy to cool down without taking anyone out of work.The board, meanwhile, expects unemployment to be below 4% by 2024, despite numerous rate hikes and a balance sheet turnover.

Is it possible to subdue high and widespread inflation without costing anyone a job? The Fed hopes so, and so do we. But it’s a cruel old world out there. (Ethan Wu)

Gold revisited

It is intuitive that gold will be a popular asset in moments of geopolitical pressure. It is an ancient, simple, politically neutral asset, with a weak correlation with volatile stocks. Well, if ever there was a stressful and uncertain geopolitical moment, we are in one now. How did gold work?

The following is a table of the gold price and the real interest rates (represented by the yield on the 10-year inflation-protected treasury) since the epidemic began:

The reason for including real rates is – as we repeat here nausea – they are the starting point for any gold analysis. Real rates are the cost of the opportunity of holding gold without return. So there is a reliable reverse relationship between the two. The periods when the golden and real gates ignore each other, or even move together, are interesting. As we are Teeth A month ago there was a prolonged period of positive correlation between the beginning of the year and the last week of February. One explanation for this is a grip on stability and security in a crazy world of overturning inflation and the threat of war.

There is further evidence of increased demand for gold in these frightening times. Garrett DeSimone of OptionMetrics pointed to the recent “negative bias” in gold options. This is a measure of the difference between the premiums paid for gold calls (long options) and gold purchases (short options). Below is a chart of bias. Without going into the technical details, a drop in the chart shows that investors are paying a relatively larger premium for long exposure to gold:

Further confirmation of the demand for gold in crisis is found in holdings of gold basket certificates. Here are their accumulated holdings in gold, in millions of ounces:

Capital moved to gold through ETFs quickly in the frightening first days of the plague, and it is doing so again now, in the shadow of the war. But here’s a riddle. If the options and gold ETF markets are showing strong demand, probably driven by fear, why has the price of gold turned south since breaking $ 2,000 on March 8?

The easy answer is that the real interest rate started to rise then. But there may also be another aspect to the situation.

Notice how the last golden rally, in the first seven months of 2020, also flipped quickly after breaking the $ 2,000 threshold. A veteran participant in the gold market (who wanted to remain anonymous) argued to me that as gold approaches this level, it is starting to kill the demand in the physical gold retail market, which is dominated by India and China. Unlike buyers who buy gold in a brokerage account, never touching the metal itself, Indian and Chinese buyers are very price sensitive. This exacerbates the situation for those buyers for whom gold rallies driven by geopolitical pressure tend to be accompanied by a stronger dollar, which makes gold even more expensive for them.

Indeed, gold imports to India peaked in the spring of 2021, in the channel between the 2020 and 2022 price peaks – and fell by 10% in February compared to the previous year, to $ 4.8 billion.

Line chart of India gold imports, $ m shows not at any price

If this account is true, it makes the gold market much more interesting. It’s starting to look like a wrestling match between two groups of buyers: price – insensitive electronic buyers who use gold as a variety, and price – sensitive physical buyers who use gold as a store of value.

One good read

We were happy to see the WSJ system take on The SEC’s proposed reforms in the private market are important and neglected. But they are wrong to say that the purpose of the agency is to “erase the distinction between public and private companies in this way [SEC chair Gary Gensler] Can spur new ESG discoveries across the economy. “If there’s a big plan here, it’s to push more companies into public markets. ESG, stupid as it may be, has little to do with it.

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