The Fed's narrowing narrow path

Delivered daily by 8 a.m., Morning Money examines the latest news in finance politics and policy.

Feb 11, 2022 View in browser   By Kate Davidson and Aubree Eliza Weaver Editor's Note: Morning Money is a free version of POLITICO Pro Financial Services morning newsletter, which is delivered to our subscribers each morning at 5:15 a.m. The POLITICO Pro platform combines the news you need with tools you can use to take action on the day's biggest stories. Act on the news with POLITICO Pro. The risk of an election-year recession just got a little more real. Inflation hit another four-decade high in January, as price increases spread to virtually every spending category , the Labor Department said Thursday. The report, which came in above economists' expectations, puts pressure on the Federal Reserve to respond with bigger and more frequent interest-rate hikes this year to tame inflation. Respond too aggressively, however, and officials could slow the economy down so much that it tips into a recession. That would spell disaster for Democrats and the White House, whose policy agenda has already been derailed by persistently higher prices. "The Fed has a very narrow path to guide the economy back to one where inflation is lower but growth does not slow meaningfully, and I think that the path got even narrower" with the latest inflation data, Deutsche Bank chief U.S. economist Matthew Luzzetti tells MM. Luzzetti and his colleagues revised their forecast after Thursday's data, now projecting the Fed will raise short-term interest rates by half a percentage point at its March 15-16 meeting, up from the quarter-percentage-point rise they previously expected. They also expect policymakers to raise rates by a quarter percentage point at every other meeting this year, except for November. Goldman Sachs economists on Thursday also increased their forecast for rate increases, to seven consecutive quarter-percentage-point hikes in 2022, from the five they expected before the latest inflation report. Stocks tumbled and bond yields rose as markets digested the inflation data and what it means for the path of Fed policy. Fed-funds futures markets now see a nearly 90 percent chance that officials raise rates by a half percentage point in March, up from roughly 24 percent odds the day before, according to CME Group. "We have believed that FOMC participants have little inclination to pursue a 50-basis-point hike unless they were ready to declare an emergency," former Fed governor Larry Meyer said in a note to clients. "However, it changes the calculation significantly that the market is virtually asking for 50." A recession? Really? — To be clear, forecasters and Fed watchers aren't seeing the U.S. economy deteriorating. On the contrary, it's booming: Gross domestic product rose at a 6.9 percent annual rate in the fourth quarter, employers have added more than half a million jobs a month on average over the past three months, and wages and salaries rose 4.5 percent last year. But that success, which the White House has repeatedly touted, has come with a nasty side of inflation, as strong consumer demand has collided with supply chain bottlenecks. While many economists, including Fed officials, continue to expect that inflation will begin to ease over the coming months, there are also growing concerns — which Thursday's CPI report did little to allay — that price pressures are becoming more widespread and potentially more persistent. Which brings us back to the Fed — "What we're talking about now is the Fed really having to slam on the brakes," Grant Thornton chief economist Diane Swonk tells MM. "And when you slam the brakes quickly, you can trigger an accident." Credit conditions have worsened some since the Fed made its abrupt policy pivot late last year, as markets price in the prospect of greater tightening and slower growth. But monetary policy is still very accommodative — interest rates are still low and the Fed's balance sheet is still elevated — and it could take time before rate increases actually weigh on the economy. Luzzetti and his colleagues still put the odds of a recession this year below 50 percent but said a more aggressive Fed clearly raises recession risks in 2023 and 2024. "For a while, we have believed the biggest risk to growth was if the Fed had to undertake a more aggressive tightening of monetary policy to tame inflation pressures," he said. "And I think very clearly with this morning's data, the risk of that has risen." Not everyone is convinced the CPI data moves the Fed much — "Today's report was not encouraging, but it's premature to conclude that the Fed will move [up rates by half a percentage point] next month," Roberto Perli, head of global policy research at Piper Sandler, tells our Victoria Guida. "Even if the next report were to show strong price pressures, I think the Fed will be wary to make an aggressive first step in order not to risk destabilizing markets." IT'S FRIDAY — Six weeks down, 46 more to go. If you're in D.C., enjoy that 63-degree high today! Let us know what we should be writing about next week: kdavidson@politico.com, aweaver@politico.com, or on Twitter @katedavidson and @aubreeeweaver.   BECOME A GLOBAL INSIDER:  The world is more connected than ever. It has never been more essential to identify, unpack and analyze important news, trends and decisions shaping our future — and we've got you covered! Every Monday, Wednesday and Friday, Global Insider author Ryan Heath navigates the global news maze and connects you to power players and events changing our world. Don't miss out on this influential global community. Subscribe now.     Driving the Day University of Michigan consumer sentiment data released at 10 a.m. WARREN TOUTS STRONGEST ETHICS PLEDGE EVER BY FED NOMINEES — Victoria again: "Three of President Joe Biden's nominees to the Federal Reserve Board have pledged not to seek employment or compensation from financial firms for four years after they leave office, Sen. Elizabeth Warren said Thursday." "Warren's office said Sarah Bloom Raskin, Lisa Cook and Philip Jefferson had also agreed to extend any recusals during their time at the Fed to a period of four years, instead of two, and to not seek a waiver from those recusals." TOOMEY QUESTIONS WHETHER FED NEEDS ITS RESERVE BANKS — Victoria again: "Sen. Pat Toomey on Thursday said Congress should rethink the role of the Federal Reserve's 12 regional branches, including whether they still serve a useful purpose. In an interview with Bloomberg TV, Toomey (R-Pa.) blasted the lack of information he had received from the Kansas City Fed over its decision to grant the financial technology company Reserve Trust access to the central bank's payment system, a privilege mostly extended to depository institutions." SEC TO SPEED UP OWNERSHIP REPORTING — Our Zachary Warmbrodt: "The SEC on Thursday proposed a rule that would accelerate how quickly investors have to disclose when they take significant ownership stakes in companies. "The rule would speed up '13D' disclosures — triggered when an investor owns more than 5 percent of a firm — from 10 days to five days." —The SEC also proposed changing the rules of its whistleblower program to make it easier for tipsters to claim bounties, Reuters' Katanga Johnson reported: "The changes, which are subject to public consultation, would scrap a Trump-era rule that had afforded the agency greater discretion to determine the size of whistleblower payouts." WHERE IS INFLATION HITTING THE HARDEST? — WSJ's David Harrison: "American consumers are kicking off 2022 with some big price increases in everyday purchases. The price of food and utilities surged in January from the previous month, according to the Labor Department. Prices for healthcare and housing have also started to creep up. Vehicle prices, which have been rising rapidly because of a shortage of computer chips, saw inflation moderate in January but remain well above where they were a year ago." — Oh and btw: A new economic analysis shows the average U.S. household is spending an additional $276 a month because of inflation, WSJ's Gwynn Guilford reported. —Does everything really cost more? WaPo's Alyssa Fowers, Chris Alcantara, Andrew Van Dam and Artur Galocha have created this new inflation quiz to figure out. WALL STREET'S ERA OF SECRECY FOR HARASSMENT CLAIMS IS FINALLY OVER — Bloomberg's Max Abelson and Paige Smith: "When Lee Stowell saw that Congress was banning mandatory arbitration for workplace sexual harassment and assault claims , it hit home. Years ago, the former junk-bond saleswoman sued her boss, a colleague and Cantor Fitzgerald, accusing them of harassment, discrimination and retaliation — allegations they denied. Instead of going to court, Stowell, like so many before her, was forced into arbitration's shadow legal system. "The legislation, which President Joe Biden is poised to sign now that it cleared the Senate Thursday, will have big implications for employees, whose contracts often include mandatory arbitration provisions, and for corporations, which prefer that route because it can be quieter and cheaper than public litigation." FINCEN'S CORPORATE OWNERSHIP RULES STIR DEBATE — WSJ's Dylan Tokar: "The U.S. Treasury Department is facing a wide range of views on the details of a corporate ownership database, more than a year after the agency was tasked with implementing a law that Congress hopes will help curtail the use of anonymous shell companies." FED WATCH FED TO STRESS TEST BANKS AGAINST COMMERCIAL REAL ESTATE, CORPORATE DEBT TROUBLES — Reuters' Pete Schroeder: "The U.S. Federal Reserve announced on Thursday that its 2022 round of large bank stress tests will include a severe decline in commercial real estate prices and turmoil in corporate bond markets. The hypothetical recession the Fed will use as the basis of its tests also envisions unemployment spiking to 10 percent over two years." —Dennis Kelleher, president of Better Markets , writes to MM about chatter that the stress tests are too stressful: "There is no basis to claim that the Fed's stress scenarios are too tough given the unprecedented conditions that exist today: almost $9+ trillion Fed balance sheet, surging/historically high inflation, massive multiple asset bubbles, historic levels of government, corporate, financial and personal debt, all at the same time the Fed is engaging in an equally unprecedented policy pivot from negative rates/QE to a significant rising rate cycle while withdrawing QE (and all the balance sheet implications of that). Stress that!" FED'S BULLARD BACKS SUPERSIZED HIKE — Bloomberg's Steve Matthews: "I'd like to see 100 basis points in the bag by July 1," St. Louis Fed President James Bullard, a voter on monetary policy this year, said in an interview with Bloomberg News on Thursday. "I was already more hawkish but I have pulled up dramatically what I think the committee should do." —Meanwhile, Richmond Federal Reserve Bank President Tom Barkin on Thursday said he would be "conceptually" open to raising interest rates by a bigger-than-usual half-of-a-percentage point increment, but does not see a need for it now, Reuters' Ann Saphir reported.   STEP INSIDE THE WEST WING: What's really happening in West Wing offices? Find out who's up, who's down, and who really has the president's ear in our West Wing Playbook newsletter, the insider's guide to the Biden White House and Cabinet. For buzzy nuggets and details that you won't find anywhere else, subscribe today.     Jobs Report Michael Pedroni has joined the Investment Company Institute as chief global affairs officer. Pedroni was most recently executive vice president at the Managed Funds Association and also served for eight years in the Obama administration Treasury Department and as a senior adviser for global economics on the National Security Council. Denny Gulino, a mainstay of the Treasury Department press room, is retiring today after more than four decades covering the Treasury, Federal Reserve and the U.S. economy. Gulino started covering Treasury as a reporter for United Press International, and served for 10 years as Washington bureau chief for Market News International before starting Mace News, a financial news service. Congrats, Denny! The U.S. Treasury yield curve has been flattening over the last few months as the Federal Reserve prepares to hike rates. Here's why you should care. — Reuters' Davide Barbuscia and David Randall U.S. housing affordability worsened in the fourth quarter as home prices rose alongside mortgage-interest rates. — WSJ's Nicole Friedman This year's Super Bowl is set to become the biggest legal gambling event in football history. — WSJ's Joseph De Avila   Follow us on Twitter Mark McQuillian @mcqdc Kate Davidson @KateDAvidson Aubree Eliza Weaver @aubreeeweaver Ben White @morningmoneyben Victoria Guida @vtg2 Katy O'Donnell @katyodonnell_ Zachary Warmbrodt @Zachary   Follow us

To change your alert settings, please log in at https://www.politico.com/_login?base=https%3A%2F%2Fwww.politico.com/settings This email was sent to rouf@idiot.cloudns.cc by: POLITICO, LLC 1000 Wilson Blvd. Arlington, VA, 22209, USA Please click here and follow the steps to unsubscribe.