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The Penta Podcast Channel is home to all of Penta's podcasts, including the Macrocast and What's At Stake: A Penta Podcast. The Macrocast, produced by Penta and Markets Policy Partners, features weekly insight and analysis on the latest macroeconomic trends. What's at Stake: a Penta Podcast features in-house experts and often special guests for analysis on the biggest issues shaping business and public policy.
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Macrocast: Shutdown, signals, and shifting stances - Bracing for the bumpy road ahead
On this week's episode of the Macrocast, Ylan, Brendan, and John discuss the looming government shutdown and much more, including the Fed's competing signals on interest rates, and the international economic outlook. The trio unpacks the looming debt ceiling fight and the effects of far-right influences on Speaker McCarthy's negotiation power. The group also analyzes the Federal Reserve's recent decision against rate hikes, and speculates whether the decision will stick. Finally, our hosts discuss the Bank of England's unexpected pause on rate hikes and what's next for the Japanese Central Bank.
Hello everyone and welcome to another edition of the macrocast. I'm your host, elon Mui, a managing director at Penta, brendan Maltz and John Fagan of Market's Policy Partners are my co-host. How's it going, guys?
Speaker 2:It is going pretty well after a busy, choppy weekend markets. Hopefully we're going to be calming down a little bit into the weekend, but lots has gone on this weekend.
Speaker 1:Yeah, that's right. I mean, the Fed did not hike rates at its recent meeting. That's what markets were expecting. But to your point, john, the majority of officials are now leaning toward one more hike before the end of the year, signaling that they may not budge very much next year. And markets aren't liking that message.
Speaker 2:No, that higher for longer and hawkish lean from the Fed.
Speaker 2:Really, I think between the two of those, I think Brendan and I would both say that the higher for longer is the one that's really sending the message.
Speaker 2:When you look at Fed Fund futures the odds that they get in one more rate hike you can almost say that it's academic at this point. It's signaling the Fed Fund futures odds are less than 50-50 that they do another hike by the end of the year. This is really showing what the market is interpreting as the Fed opting for maybe not going as high as people thought at one point they might, but really focusing on keeping that level at pretty tight monetary conditions settings as far as the eye can see. Really that's beginning to show up obviously in the longer-dated treasuries, the yields coming up very steeply in tens and even more in the longer-matured thirties, etc. This is also reflected in Fed Fund futures. What used to be 125 basis points of easing priced into next year is now down to 75-50 and falling. We think that's been our view. The Fed is accomplishing a lot of tightening by in effect convincing the market that they are indeed going to hold rates high for an extended period.
Speaker 1:The big change that I saw in the materials that the Fed put out during its meeting was really in what they call the dot plot, which is each individual official's estimate of where rates are going to be over the next few years. This is not something that is a plan by the Fed for how they're going to act moving forward. This is not something that they've debated and all agreed on. It's merely just each official saying here's where I think rates will be in the future. At the last meeting, the majority of officials were clustered around a rate of less than 5% in 2024. Now a majority are clustered over 5% for 2024. While it seems that there's likely to be some level of easing in the future to your point, john it's certainly not as much as its markets had been anticipating. We'll see if those dots continue to move up as the economic data comes in, stronger than the Fed markets A lot of economists even had expected. John.
Speaker 2:Greenewald yeah, really that is the issue. The resilience of the US economy has bolstered the Fed's message of higher for longer. Our house view is that the economy is going to slow down in the back half of the year and that's going to test the Fed's messaging If we do see that decline in economic growth rates in the US. We see, as we expect, the consumer tiring out a little bit. We'll talk a little bit more about those headwinds. Chair Powell alluded to some of those that are coming up. That's really going to be the next real test of the Fed's message higher for longer if they can convince the markets that, even with growth coming down and the labor market softening, that they are indeed going to be very stingy with cuts even in that scenario. That, I think, will be the next challenge for the Fed to try to get through the markets.
Speaker 1:Yeah, powell also made a comment about the neutral rate, which is what everyone thought he was going to be zeroing in on during the Jackson Hole Fed conference earlier in the summer. But he kind of alluded to the fact that the neutral rate may be higher than what Fed officials had previously thought, which again speaks to the fact that rates will be at a higher point than many had expected. But he also underscored the uncertainty in the neutral rate, as everyone trying to figure out where is that sweet spot for interest rates where the Fed is either hitting the brakes during the economy or pushing on the gas. And I thought it was kind of funny that he described the neutral rate. What did he say? He said we'll know the neutral rate by its works, which I did not realize was a biblical quote but apparently was lit up with Jay Powell's Catholic upbringing.
Speaker 2:That was a little unusual for a Fed press conference, but I guess that's one way to put it.
Speaker 1:You only know it by observation, right.
Speaker 2:You can model it all, you want. You can also say, maybe it's just an article of faith.
Speaker 4:But it's a little troubling that we built our monetary system around a rate that we admit we have no idea what it is.
Speaker 2:And that uncertainty is part of what we think is going to keep the Fed higher for longer. And they're still guessing about, and they always will be guessing about, the neutral rate, and by its works, that means the proof is in the pudding. For the Fed, they're going to have to see whether the economy slows down, whether inflation slows down sufficiently. As I said, though, we think that the growth rate in the US is going to decline here in the back half of the year and further into 2024, there is that risk of sticky inflation we saw that on display last time held up by high energy prices and so forth. That really is a tough formulation for the Fed and clouds the idea of the neutral rate if you have this stagflationary dynamic.
Speaker 4:Yeah, and, as you said, paolo said the word uncertain, I think six, seven times. But you also had some of the middle group become a little more hawkish in their dot plot. But that also, I think Paolo would very much like to be on hold. And there's another group, and maybe even the future cut. But there's another group that generally believes that we need to keep hiking. But I think a bit of the dot plot is also a bit of bartering back and forth and I think what ends up happening is the doves agree to keep rates steady and the hawks agree to give up their hikes and we just stay at this level, because there is a lot of uncertainty, longer than the market is pricing in.
Speaker 1:Yeah, I did notice there was one official who had their dot way up at 6% for 2024, a bit of an outlier. A bit of an outlier prediction there.
Speaker 2:It's interesting when you think about the Fed I mean being in Washington DC. Everything gets politicized right and we've seen the Biden administration take a very different tack with the Fed than the Trump administration did before it. But it was just over the weekend that former President Trump in an interview railed against high interest rates and all of a sudden that kind of brings back to the front of your mind that during his time in the White House he was certainly not shy about putting pressure on the Fed. Certainly didn't see the Fed necessarily with the same kind of untouchable independence maybe that previous administrations or administrations traditionally would. And I guess the quote I'm looking at here is they're too high, people can't buy homes, they can't do anything, and so one would expect that you can certainly play out scenarios, obviously in the political arena, that would put the Fed and a second Trump administration on collision course over this issue. So that's a long way in the future. Plenty of twists and turns in the road between now and anything that might look like that. But that was notable, we thought.
Speaker 1:I haven't started to game out what a Fed under President Trump, if President Trump's second term would look like yet. But to your point, john, I have a feeling that Jay Powell would probably not be chair.
Speaker 2:Yeah, that may well be, right it is interesting, the presidential cycles right. It's auspicious. The Fed tends to want to keep out, obviously, of the political spotlight, wants to be completely neutral and certainly the Biden administration has stayed out of the Fed's way, although you could say that maybe Treasury Secretary Yellen made some opinionated comments at certain points that veered out of her lane, but that's all in the past. The sense really is that this does, even though the White House is pretty quiet about it. It looks like Biden's Fed. He's got a lot of new appointees on the Fed and there are some familiar names from democratic economic administrations et cetera. So usually when the Fed is going into an election cycle it tries to not do anything. That's the most auspicious position for the Fed ahead of an election cycle. But in the current formulation this is really the Fed fund futures are starting, putting rate cuts right in the lead-up to next year's election, which is an interesting dynamic and is one that certainly makes you think about the political ramifications of Fed decision-making.
Speaker 1:Yeah, and during his press conference Powell was repeatedly sort of he was getting thrown all of these different scenarios of ways the economy could veer off course. What about a government shutdown? What about the UAW strike? What about student loan repayments? And each time he had to resort to. We'll see how these things pan out. We'll see what the data finally says. The Federal Reserve obviously has no role in what happens with the UAW strike or what happens with the shutdown, but the Fed has to react to all of these different headwinds that might be facing the economy in the fall. So far, the economy seems to have weathered them all, but everyone's waiting for another shoe to drop, brendan.
Speaker 4:Yeah, but we know that monetary policy works with a lag and that lag is really starting to catch up in data points in terms of consumer sentiment, but also business sentiment. There was a small business survey earlier this week that said that, you know, businesses are just having a very difficult time getting credit and just have very little faith in expanding their business because, a it's hard to get the funding to do it and, b there's just a lot of uncertainty. So I do think the consumer has been much more resilient in 2023 than we would have thought, but I worry that just what high rates do is going to rear its head in 2024. And we're going to see, you know, below trend growth and things could decelerate quicker than you know the Fed currently is, because now we're very much in that, you know, soft landing consensus in terms of monetary policy, but the consumer and the small business sentiment are reflecting a very opposite sentiment that they're just very pessimistic about next year.
Speaker 1:That's an interesting point. Maybe not one single headwind could throw the consumer or the economy off course, but if they all hit at the same time, that certainly could be a major factor for consumers. Businesses, it sounds like, are already starting to think about what the impact of the student loan, the end of the student loan repayment pause, could look like for them. We saw some comments from Walmart and I believe from Macy's as well, saying you know, people are going to have to start paying another on average $200 or $300 to student loans that they were using to buy other goods discretionary items, food necessity items and that's going to have an impact on the bottom line for a lot of retailers.
Speaker 4:Yeah, and you're seeing holiday buying surveys and it's showing that people are planning to spend a lot less this Christmas season than they did last year.
Speaker 2:Yeah, and in financial markets everything is, you know, it's always those marginal changes that make such a big difference.
Speaker 2:And you just look at, when we look at the prospects for the US consumer, what's getting easier on the margin, what's getting better on the margin for the US consumer.
Speaker 2:You know, it's just, it's hard to see, it's easy to see all these different headwinds and things that could weigh on them. But you know, I guess you know you can say, well, inflation rates are coming down but prices are still high. And that's something that is sort of flickering through in the media narrative about inflation, which is, you know, you can tame the rate of inflation but you're not going back to the price level that you accelerated away from pre-pandemic, and so that is that sort of like inflationary echo, even though it's not. You're not seeing month on month increases or continued upside, You're just seeing that stabilization at a higher equilibrium, and it's an uncomfortable equilibrium in a lot of different cases. So that really is where the rubber is going to meet the road for the consumer. Can they continue to spend? Can they keep up, as our guest John Dick talked about, Can they maintain that level of expenditure and lifestyle choices that they've gotten used to in the face of these deteriorating fundamentals.
Speaker 1:Yeah, I mean, prices may not be going up anymore, but if your income is going down because you have other things to pay, like your student loan debt, then functionally you're still left holding back as the consumer. So I mean I can see why consumers are starting to feel perhaps a little bit more pessimistic. And then you hear about things like the UAW strike, which could then affect both jobs number one for the folks who are in the strike and for suppliers who are sort of in that supply chain orbit around the effective factories. But then for consumers who say, well, maybe I was thinking of buying a new car, but if they're going to be more expensive or if the production isn't going to be there, then maybe I'm going to hold off.
Speaker 2:Yeah, and it's an uncomfortable place obviously for the White House, and this is at a time when they want to be talking about the positives in the economy and Bidenomics and making a contrast between Biden's economic plans and what the Republican nominees plans will be. But this puts the White House right in that challenging dynamic of trying to balance, obviously President Biden's very pro-union, but it would certainly be unfortunate for the White House and for Bidenomics to have an extended strike, and so I'm sure that there's a lot of energetic dealmaking and attempts to try to put the two sides together, with the White House sort of facilitating. This is where's Joe Biden going to be in terms of his public persona? Is he going to weigh in more heavily on the side of the unions or is he going to try to stay in the background as he's done? Right? This is a really challenging place to be for the White House but hopefully, like the government shutdown concerns, it really is about duration, and longer it lasts, obviously, the more severe the impact would be.
Speaker 1:Yeah, between the UAW strike and the looming government shutdown, will anyone be on the job come October 1st? I think that's a good place to take a break for now. When we come back, we're going to talk a lot more about the pending shutdown and also a little bit about the Bank of England and why it decided to pause its great hikes as well. Stay tuned.
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Speaker 1:And we're back with the macrocast. The government could turn off the lights on September 30th if Congress is not find a way to fund the government. So we are staring once again at a potential shutdown that could have economic ramifications, depending on how long it lasts. John and Brendan, we have been in this cycle before. Unfortunately, everyone always ends up going back to work, everyone always ends up getting paid, but in the meantime it can be kind of unpleasant, obviously for the workers who are affected, but also potentially for the economy.
Speaker 2:Yeah, the economic drag, as you say. Even if there's a little bit of a divot, usually it's filled in because everybody gets their back pay and comes back to work, usually less than a month. It's just a very strange time on Capitol Hill. I'm no expert necessarily on Congress, but you certainly hear a lot and pick up a lot just by being in Washington and this may. This wasn't all that different, at least right now, in the way that the debt ceiling fight played out Lots of heated rhetoric and it sure looked like McCarthy was on the hot seat and being threatened by the far right of the party and everybody knows that the deal that he cut allows them to vacate. Really, only one member of Congress can vacate the speaker Actually any member, but more likely a Republican.
Speaker 2:Yeah, it's unlikely to be anybody else. But then they decided on, the far right of the party decided it's better to have a weakened speaker and there's nobody really else in the wings, showing him how that they've got them over a barrel and then letting him off the hook to mix metaphors is the way that the debt ceiling played out. That's probably the way that the government shutdown is going to come out. It's not a political winner. Usually the sides just want to get these things resolved, while making their point in grandstanding for as much as needed.
Speaker 1:Yeah, the part about this that boggles my mind is that we weren't supposed to be here. That was the whole point of the debt ceiling fight. Is that both sides McCarthy, biden, republicans, democrats had already agreed to cut spending fairly significantly, not just for this year, but in some out years as well. I think it was the CBO estimated the $1.5 trillion in cuts over the course of a decade. So they were supposed to have already had this fiscal fight during the drama over the debt ceiling, and that was going to take the prospect of a government shutdown off the table, but it did not. So here we are again, nearing September 30th and once again facing the deadline and truly some self-imposed, self-inflicted wounds by lawmakers. I just cannot believe we are consistently back here again and again, even after a deal has been struck and the law has been passed, that Congress cannot get its act together in order to keep the lights on.
Speaker 4:Yeah, did you see the names of the three people that pulled the rug out from underneath McCarthy yesterday? Matt.
Speaker 1:Gaetz, Margie Chela Green yeah.
Speaker 4:Those three. Don't shock me with anything they do.
Speaker 1:No, that's a good point, and that single member of Motion to Vacate has made McCarthy so vulnerable. He's proven himself a survivor over and over again, but the question is, at what cost? What does he have to continually give up to the hard right flank in order to do the basics of governing? And so far he's made it. But maybe the pain is going to be the government shutdown and, as we talked about with Ed Mills of Raymond James a couple of episodes ago, the question really becomes what is the way out of this? And to me it seems to be it's going to have to be making a deal with Democrats. You already see moderate Democrats sort of reaching out and saying please work with us, please negotiate. The problem solvers caucus is getting involved, which means that we may be at the end stages of this debate.
Speaker 2:Yeah, Moderate Republicans are saying the same thing. The ones that are in districts that Biden won are like don't do this to me, let's get past this. So there's definitely. I think you're absolutely right, Elon. There's no way that this gets done without a bipartisan Democrats going along with it. The likelihood it'll be the same as the debt ceiling right.
Speaker 2:It goes to the they passed something out of the house it goes to the Senate. The Senate puts a bunch of things in it, it goes back to the house and McCarthy passes it with Democrats and support from Democrats, and that's probably the way it's going to go down. It's just a question of does Kevin get to keep his seat and is he going to survive this? But, as you say, he has proven to be a source of support. As you say, he has proven to be a survivor so far on this very thin ice that he's on. And, as we sort of discussed before, if they get rid of him, will they have? Will they lose leverage by getting rid of him? Maybe they retain more leverage by keeping him on and torturing him.
Speaker 1:He can be the hostage, right. He can be the hostage for the, for the GOP, though you guys are predicting that the shutdown could last all the way through Thanksgiving. That there's. You know, there needs to be a little bit of a bloodletting amongst the Republicans at least before they agree to some sort of compromise. Is that? Is that still what your base case is?
Speaker 4:You could get some can kicking down, but you know, as we talked about with Ed, you kind of need a date that you know messes with people's lives to to get the actual deal. And the next date that's going to mess with people's lives is really Thanksgiving.
Speaker 1:Yeah, that's one of my favorite favorite lines that he used never underestimate the power of congressional spouses.
Speaker 1:Right, Everyone wanting to yeah, everyone wanting to, to get home to be with their families. But you know, I think that some of the drama that we saw play out over the past few days just signals that they don't have a plan for how to how to get out of this yet. I don't think that I don't. I don't have the feeling that McCarthy is just saying All right, kids, you guys go work it out. I'll come back in half an hour and let you know when, when it's time for dinner and everyone can can come back to the table. Right, we saw Republicans try to just bring up the rule not even the actual bill, but just the rule to for for defense spending, and that got defeated in, you know, before it even hit the floor. So to me, that's just a signal that you don't really have a good understanding of what those members want, or maybe those members, those members don't even have a good understanding.
Speaker 4:They don't even know what they want. Yeah, the real.
Speaker 1:The real goal is just to see chaos.
Speaker 2:Yeah, and to go back to our original point, like chaos and politics it's not like front and center and most people's lives around the country, but it does have that, you know, nagging, you know, sense of negativity and can add to the headwinds on consumer sentiment.
Speaker 2:And this is, you know, going into. You know we don't want to wade too far into the weeds of politics, but you know we alluded to the the sort of economic policy ramifications of the election next year. That political season is going to be a very, you know, very tumultuous one. One would guess a lot of, a lot of uncertainty. At the very least you can say that you know the presidential and congressional election outcome creates a very binary divergence on economic policy and stuff that's really important for financial markets, just to narrow it down to that specific issue, to leave out all the other stuff that it's important for. But you know, from a consumer and investor perspective that's a gigantic looming wall of uncertainty that will only get, you know, closer and loom larger in the minds of investors and consumers. So I think it's going to be an uncertain time and we're seeing, you know obviously, the foothills of that in the current showdown on Capitol Hill.
Speaker 1:Yeah, thanks, sean, for taking us back into macrocast territory there. But one thing that did come up during Powell's Powell's press conference was the possibility that if this shutdown, does you know, last for a long time or a couple of weeks, what does that mean for economic data? And does the economic, is economic data, able to be released? Do we get a job support? What else would come out? Retail sales what else might we potentially miss? And that could impact the Fed's ability to make a decision? If you're data dependent but you don't have the data, it's kind of hard to decide what to do next.
Speaker 2:Well, that's kind of why we think I mean, well, that's not why, but we think that the Fed is totally on hold anyway and the data you know the burden of proof is really on the Hawks. They would have to get some really outlining data to get the Fed back in hiking mode. We think the sort of threats of, you know, potential to hike down the road is obviously rhetorical cover for the what we think is rhetorical cover for the end of the hiking cycle, although you know they want to leave themselves some optionality for that kind of dynamic. But we expect that their base case is. You know, probably, that economic data you know on the growth doesn't re-accelerate. The labor market goes, you know, incrementally in the future and inflation stays generally in a downtrend. So you know they're in.
Speaker 2:If you dial up the uncertainty, they're in. You know do no harm mode and it's not going to drive them to ease prematurely or anything like that. But it's just, you know, another factor weighing on the side of just keeping rates steady, keep talking optionality, maybe we can hike more, hire for longer. That sort of stuff it's a very safe sort of policy setting and policy message to just stick with even through these. You know these very uncertain days ahead.
Speaker 1:And Brendan the Fed was not the only central bank to pause. In recent days, the Bank of England also paused its rate hike campaign after, I think, almost two years of raising rates. What's going on there?
Speaker 4:That was surprise markets, the markets that actually priced in two more rate hikes for the Bank of England by the year end. But they earlier in the week I got kind of surprised inflation print that was a little less hot than they had expected and it seems that that, you know, caused them to reassess their outlook on the economy and inflation. And you know, like the Fed pause on certain times and the pound had been kind of one of the best performing currencies in the world and it definitely caught the market off guard because it reversed that for yesterday and today.
Speaker 1:Yeah, I saw some predictions by economists that this could actually be the signal, the end of the rate hike cycle. Yeah, I'm not sure.
Speaker 4:I mean the market was giving you more rate hikes. So if you weren't planning on pausing for a while, I don't know why you would have paused yesterday.
Speaker 2:Another pause. We saw well pause. They've been on pause for basically the whole time. And Japan, big outliers in the monetary world, still with their keeping their interest rate, their policy rate, at negative 10 basis points. They're pretty much all alone on that front. They've held the line, incredibly, since the tightening cycle in other major central banks and there were some rhetoric floating around, some remarks by the relatively newly minted Governor Weta over last weekend that conditions might align for them to hike rates and the market scrambled to price in rate hikes later into early next year. And then they got rug pulled.
Speaker 2:Essentially, the statement came out. There was no change in the rates. The statement basically walked back, said that there's still an easing mode, gradual easing mode, no indication of rate hikes. They had given themselves some additional leeway in July at the previous meeting in July with their yield curve control which is targeting 10-year Japanese government bond yields at zero. They had a corridor of 50 basis points on both sides and they rhetorically loosened that to a 1% point. They said at the time that that was just a tweak and the markets didn't believe it. They thought that they're always looking for the BOJ to be shifting into tightening mode under this new Governor Weta, and he keeps proving that he's more of a continuity candidate at the head of the central bank. The yen is just taking and beating on the back of this policy divergence. It's the weakest level versus the dollar. You got to go way back to find it around like 150 where it is now. It's a pretty significant weakness and no intervention that we can see right now.
Speaker 1:That was a very informative trip around central banks of the world. Guys, I appreciate that tour that does it for us today. I'm Elan Moy with Penta. My co-hosts are Brendan and John from Markets Policy Partners. We hope that you all enjoyed our show. Please remember to like and subscribe to the macrocast wherever you get your podcast. Thanks for listening.