This guest commentary was written by Mike O'Rourke of JonesTrading
It is no secret that with the exception of NY Fed President Dudley, the Federal Reserve’s Regional Bank Presidents have little policy sway in comparison to the Board of Governors based in Washington DC. That being said, it’s worth noting when a Regional Bank President (with the exception of Jim Bullard) switches camps in a meaningful way.
Yesterday, three Regional Fed Presidents spoke about the upside risks to the economic outlook. All were once stalwart Doves. Two of the three supported a faster tightening path than the median FOMC projection today. Chicago Fed President Charles Evans, who was often the most dovish Fed official throughout the crisis, noted that “For the first time in quite a while, I see more notable upside risks to growth.”
San Francisco Fed President John Williams began his hawkish metamorphosis a little more than 18 months ago. Today, Williams clearly expressed his view on the economy and his view on the path of the Fed Funds rate:
“My own view is similar to most of my FOMC colleagues. I should note, however, that given my forecast, along with upside risks, I would not rule out more than three increases total for this year.”
Boston Fed President Eric Rosengren began his transformation from Dove to Hawk approximately a year ago, but upped the ante today giving clear guidance of his interpretation of gradual tightening. Rosengren asserted:
“My own view is that an increase at every other FOMC meeting over the course of this year could and should be the committee's default, unless economic data come in inconsistent with forecasts.”
Rosengren explained that while the rate hike at every other meeting pace is faster than the past couple of years, it is still significantly slower than the previous tightening cycle during which the FOMC raised rates at every meeting from June 2004 through March 2006. Rosengren also noted that even moving a little faster than every other meeting would still equate to “gradual.”
"Finally, A Central Banker Who's Taken His Head Out Of A Textbook"
After nearly a decade of following Eric Rosengren and mistakenly believing he was a rubber stamp for the sitting Fed Chair, we are quickly developing a new affinity for the Boston Fed President. He is the first Fed official to acknowledge that there are different types of inflation other than consumer price inflation. He stated yesterday:
“We are clearly seeing a trend up in higher wages. Now it’s not just wages that you’d see it. Now you might inflation in the more traditional sense but I think the other thing we have to think about is are we going to start seeing inflation in other ways? Do you start seeing it in asset prices as well?"
We have argued the Fed has been fueling asset price inflation since 2013. In short, the central bank has admittedly pursued policies intended to drive up asset prices to create a wealth effect. The Fed has missed the fact that the wealth disparity in this country means policy primarily helped the 1% and lacked a transmission mechanism to Main Street.
As a result, Trillions of dollars of asset purchases failed to push consumer inflation higher. It is refreshing to see a that there is finally a Central Banker who has taken his head out of a textbook and begun to look at the real world.
It was only a week ago that Rosengren gave a speech in Singapore noting the emerging risks in the US commercial real estate market. In today’s speech, Rosengren comments were resoundingly similar to the arguments we have laid forth in The Closing Print in recent years.
Rosengren noted that we still have a negative real interest rate and we are well past the end of the recession, and that is an anomalous policy. He elaborated, “It is a little bit unusual to be at this stage of the cycle and not to have seen the Federal Funds rate move up a little more.” That is an argument we have made many times, including as recently as last night. Rosengren also mentioned several of the asset valuation metrics that are “elevated” in comparison to historical norms – P/E Ratios, High Yield Credit Spreads and Real Estate Cap Rates.
This is truly a welcome sign and although Rosengren is not a voting member of the FOMC, these concerns are too serious to be ignored by the Committee. Although Rosengren is not sounding alarms, these are the types of risks that lead to potential tail risk events and such warnings cannot be summarily dismissed.
The fact that Rosengren, a once dovish official, is expressing these concerns creates hindsight risk for other Committee members who continue to choose to ignore them. Someone should ask “The Maestro” how it worked out for him. What should be alarming is that once Fed officials recognize market imbalances, it is usually too late. Chair Yellen should be able to relate to that.
EDITOR'S NOTE
This is a Hedgeye Guest Contributor research note written by Michael O'Rourke, Chief Market Strategist of JonesTrading, where he advises institutional investors on market developments. He publishes "The Closing Print" on a daily basis in which his primary focus is identifying short term catalysts that drive daily trading activity while addressing how they fit into the “big picture.” This piece does not necessarily reflect the opinion of Hedgeye.
