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Why the Fed is wading into uncharted waters: Morning Brief

This is The Takeaway from today's Morning Brief, which you can sign up to receive in your inbox every morning along with:

  • The chart of the day

  • What we're watching

  • What we're reading

  • Economic data releases and earnings

Wall Street is all but convinced the Federal Reserve will cut rates this year.

Most sell-side desks are penciling in one 25-basis-point cut in June, with another two to three similar cuts by year-end. Fed Chair Jerome Powell has telegraphed rate cuts are coming since his pivot late last year.

Even the bond market agrees, though that confidence is waning.

But recent hotter-than-expected data in the US is prompting questions of whether rate cuts are advisable for an economy that is finally coming off the inflation boil — and is even showing nascent signs of reacceleration in certain areas.

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Tuesday's release of the March ISM Manufacturing PMI is a good example. It was stronger than analysts estimated and, more importantly, topped 50 for the first time since late 2022. This indicates the manufacturing sector is in an expansion phase once again (though additional data points are needed to confirm).

Meanwhile, the unemployment rate sits well below the historical average at 3.9%, GDP is humming at 3.4%, and progress to bring inflation to heel remains slow and "bumpy."

Powell's big headache right now is an economy that reaccelerates, requiring further rate hikes. This is the so-called no landing scenario.

An economy that ran too hot and stayed there was the fate of Paul Volcker, who led the Fed in the late 1970s and early 1980s. Volcker presided over a "double-dip" recession as he tamped down inflation that at one point spiked to 15% annually.

It would be supremely ironic if the same fate befell Powell, forcing another round of uncomfortable rate hikes — just as rate cuts are on the horizon.

Yahoo Finance crunched the numbers, and over the last 50 years, the Fed has presided over 22 rate-cutting cycles. Most were short-lived — especially during the period of high inflation in the US that persisted through the 1970s and 1980s.

But what's clear from the chart is that the Fed didn't change directions nearly as often as during those inflationary decades. And inflation is only one of many factors that have changed in the intervening decades.

Volcker was a bit of a maverick who famously targeted the money supply as opposed to interest rates or the size of the Fed's balance sheet. And it wasn't until his successor Alan Greenspan that we even got an official monetary policy statement after each Fed meeting that said what the Fed intends to do.

Clearly, the Fed is a different animal than it was decades ago — as is the US economy — as is the world writ large.

It's tempting to read the Wall Street reports that can handicap rate cut odds to three decimal places and tell you where the S&P 500 will land on the final trading day of the year.

But the safe bet is to remember that, at best, history only rhymes. And when it comes to the US economy, perhaps it's not "this time is different." Arguably, each time is different.

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