Fed capitulation

Posted By Darren Winters on Jan 31, 2019


Fed capitulation

Fed capitulation could be interpreted as the US economic recovery, the shortest ever on record, fizzling out and heading for a recession, if the soft data is anything to go by.

Here is the one-liner from Fed Chair Jay Powell confirming Fed capitulation on its monetary tightening policy which entailed Fed fund rate hikes and a winding down of assets on its balance sheet, quantitative tightening.

“In light of global economic and financial developments and muted inflation pressures, the Committee will be patient as it determines what future adjustments to the target range for the federal funds rate may be appropriate to support these outcomes,’ said Fed Chair Jay Powell following recent (29-30 January) Federal Open Market Committee (FOMC) meeting.

But Fed capitulation could really be about the world’s central bank attempting to prevent a market crash

Could there be another factor concerning the Fed? After the Fed’s monetary tightening policy the second-biggest market concern is the US-China trade war which could escalate into a hot war and result in the shut down of the South China Sea.

Fed capitulation

US-China trade war truce will soon expire and with no news (at the time of writing this piece) about China making “a game-changing offer,” US President Trump is expected to raise the tariff rate on $200 billion in Chinese imports from 10 percent to 25 percent.

No doubt China would respond in kind with retaliatory tariffs and quotas on US exports.

What is interesting to note is that the Fed’s FOMC) meeting with a Fed capitulation outcome occurred while US-China trade talks were scheduled to take place (30-31 January).

I don’t believe this is a coincidence and my guestimate is that the FOMC (who is responsible for setting the Fed’s monetary policy) has been forewarned about a worst-case scenario playing out regarding US-China trade talks.

Think about. If US-China trade talks yielded a breakthrough there would have already been simultaneous joint statements from China’s Xi and US President Trump. That has not happened (at the time of writing this piece).

So Fed capitulation could be about cushioning the financial markets from the darkening clouds of a US-China trade war gathering over the global economy

A full-blown US-China trade war which now looks inevitable, bearing in mind that the FOMC is now dovish and US trade delegates are hawks would be a headwind on the global economy.

The International Monetary Fund (IMF) warned (October 2018) a full-blown US-China trade war would make the world poorer and more dangerous.

But Fed capitulation at such an early stage is also a sign of Fed impotence to tackle the next global economic downturn. The current Fund rate of 2.5% and the Fed’s bloated $4.2 trillion of assets on its balance sheet means the Fed could be out of ammunition.

In the 2008 financial crisis, Fed fund rates were around 5%, QE was new and China was the  largest US trading partner and buyer of US treasuries.

So in short, with Fed capitulation, in this early stage of the cycle there is no reason to believe that the Fed can save this bull market in stocks.

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