The Fed's stated objective is to avoid repeating the mistakes made in the 1970s
MARKETS
US equities were weaker Friday, S&P 500 down 1.1%. United States 10-Year yields are up 6bps to 3.94% and United States 2-Year yields up 12bps to 4.81%. The turn in sentiment followed a solidly stronger-than-expected core PCE deflator report - adding to concerns about the need for a higher Fed terminal rate. Over the week, S&P is down 2.7% (biggest fall in 2023), and US 10-year yields are up 13bps.
Though this week's data docket will provide an initial glimpse into current-quarter manufacturing and trade activity, market participants will likely focus on Fed communications – particularly after last Friday's surprisingly-strong inflation report. Note that we have six voting members on the FOMC scheduled to appear this week – ample opportunity for officials to air their views on the latest data and, more importantly, the implications for their policy outlooks.
But given the rude health of the US economy and with inflation flames reigniting, it's challenging to envision Fed commentary veering in anything but a more hawkish direction. Hence it could be difficult for the market to find much comfort this week unless the sentiment data surprises the downside.
Firmer US data has led some to speculate that the US may achieve disinflation and avoid a recession simultaneously. But this is very unlikely if the Fed follows through with higher interest rates. The Fed's stated objective is to avoid repeating the mistakes made in the 1970s so that the FOMC members could be more committed to over-tightening. As long as this is the case, the risks are, by definition, towards a sharper rather than shallower slowdown.