The Fed’s March ahead

From: POLITICO's Morning Money - Wednesday Jan 31,2024 01:01 pm

Jan 31, 2024

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QUICK FIX

Markets are looking for news from this afternoon’s press conference with Fed Chair Jay Powell about whether the central bank will cut interest rates at its next meeting in March. They might not get the answer they’re looking for.

MM pointed out late last year that it’s not entirely clear what circumstances would prompt the Fed to lower borrowing costs, and that’s still true, though investors are pricing in about five rate cuts in 2024. With employment and consumer spending strong but slowing, and inflation falling back toward 2 percent, there’s an argument to be made for cutting sooner rather than later: Why crimp healthy economic growth if it’s not causing prices to spike? But Fed officials also don’t want to lower borrowing costs too soon, given the persistent strength of the economy, and allow inflation to reignite.

“[Stronger growth] is not itself a problem,” Powell said at his last press conference. “It’s only a problem insofar as it makes it more difficult for us to achieve our goals.” And stronger growth will “probably” make it harder for inflation to come down, he added.

Here are a couple of big questions he’s facing as he grapples with how soon to cut rates.

How fast is the economy growing, and why?

The U.S. economy grew an estimated 3.1 percent last year, much faster than what economists had projected. But inflation has also continued to fall, feeding hopes that data showing higher productivity growth might not just be noise. After all, if growth is faster because the country is more productive, that doesn’t pose inflation risks.

Skanda Amarnath, executive director of Employ America, says a big boost to productivity has come from workers — in particular, the new hires over the past couple of years who have now had time to get trained up.

But there could be more weakness in the economy than the GDP data suggests. Gross domestic income, which measures the economy from a different side of the equation, indicates that growth is more lackluster, though we haven’t gotten data for the fourth quarter yet.

Gregory Daco, chief economist at EY-Parthenon, noted that the average of GDP and GDI is often a leading indicator of where growth is headed, which has been somewhere in the 1 percent range. (That’s basically the textbook definition of a soft landing.) On the other hand, Amarnath said when you look at market-based consumption and fixed investment in GDP alongside labor income and business profits in GDI, they’re both consistent with roughly 3 percent growth.

It’s something the Fed is watching.

“The difference between GDP and GDI is as large as it’s ever been — literally one measure says the economy is growing unusually fast and another says it’s actually shrinking,” Jason Furman, former top economist to President Barack Obama, told MM. “That extra uncertainty gives a little bit of a nudge in favor of cutting rates sooner.”

What are other foreseeable risks?

A looming economic risk that MM hears a lot from Wall Street executives and government officials is the prospect that the conflict in the Middle East could widen and disrupt oil markets.

“Geostrategic risks are probably the most obvious risks that we’re closely tracking,” National Economic Council Director Lael Brainard said at a press briefing on Friday, though she argued that they are “a little bit less salient for American supply chains than for other parts of the world.” Treasury Secretary Janet Yellen also told reporters that the U.S. isn’t yet “seeing any meaningful economic spillovers” from that conflict.

But anything involving oil could prove dicey from an inflation perspective. The Fed already saw monthslong cost disruptions when Russia invaded Ukraine, an event that scrambled shipping routes and drove up oil prices.

Goldman Sachs researchers say that while shipping costs have risen sharply from the violence in the Middle East, that rise will increase global core inflation by only 0.1 percentage point this year “barring a more significant increase in transport costs ahead, which our transport analysts don’t expect,” according to a research note Tuesday evening.

IT’S FED DAY — What should we ask Powell? Send questions to me at vguida@politico.com, and send tips to your regularly scheduled MM host, Zach Warmbrodt: zwarmbrodt@politico.com.

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Driving the day

The Fed is expected to announce that it’s holding rates steady at 2 p.m., followed by a press conference with Powell at 2:30 p.m. … The ADP jobs report for January is out at 8:15 a.m. … Latest Employment Cost Index data released at 8:30 a.m. … Treasury quarterly refunding announcement at 8:30 a.m. … House Financial Services holds a hearing on proposed banking regulations at 10 a.m. … Senate Budget has a hearing on housing affordability at 10 a.m. … Senate Banking digs into artificial intelligence and housing at 10 a.m. …

What’s going on with housing? — There’s another thorny question facing the Fed. Shelter inflation — which includes the cost of rent, as well as “imputed rent,” which measures how much a homeowner might rent their house for — is a big piece of remaining inflation. New leases have been coming down for many months now, but it’s unclear how long it will take for those effects to feed fully into the inflation data, which reflects those real-time shifts with a lag.

“Fourth quarter nationally, rents came down just a little bit, probably less than 1 percent or maybe around 1 percent, and the first half of next year probably also negative, and maybe a little positive in the second half,” Fannie Mae’s Doug Duncan told MM. “But there’s a million units estimated to come on between ’23 and ’24, and Austin is perhaps the poster child for excess supply bringing rents down, something like 3 percent in the fourth quarter alone.”

But he also said house prices rose about 7 percent in 2023, and his shop is projecting they will grow a further 3 percent this year, pushing up owners’ equivalent rent. “I think that’s why the Fed is being careful about what they say about having locked core [inflation] down at 2 percent,” he said. “I think they’re concerned about that.”

If the Fed cuts rates, a significant decline in mortgage rates would push home prices up, Duncan said. “While the interest rates fall and that would help affordability, it’s going to get offset by price increases if that decline is more rapid than supply can respond,” he said. “And it still takes longer to build a single-family house today than it did 20 years ago, just because they’re more complex and supply chains are more difficult.”

First look: Hearing prep — The Senate Budget Committee is holding a hearing this morning on housing affordability, which Chair Sheldon Whitehouse (D-R.I.) says is a particularly dire issue in his home state of Rhode Island, where “there are currently no communities where families earning the state’s median income can afford to buy a typical home, and there’s only one town where Rhode Islanders earning the state’s median income can affordably rent,” according to his prepared opening statement.

“Over these next few months, I will be introducing bills to make housing more affordable for lower-income Americans,” his statement says. “Next month with Congressmen Panetta and Blumenauer, I will propose a $15,000 first-time homebuyers tax credit for lower income Americans — refundable advanceable and available for homebuyers at the time of purchase. … Ensuring access to safe and affordable housing is a moral and economic imperative. I hope it is something that we can find common ground on and advance this year.”

First in MM: Crypto PACs raise $85 million — Our Jasper Goodman: A network of pro-crypto super PACs has raised $85 million in its push to influence the 2024 elections, according to a spokesperson for the group.

Campaign finance filings set to be released this week will show that the industry-backed PACs brought in $79 million last year, the spokesperson said, and they have raised an additional $6 million this month. The group includes the Fairshake PAC, which has already begun spending to influence races, and a pair of other affiliates, Protect Progress and Defend American Jobs.

The crypto firms Coinbase and Ripple and the venture capital giant Andreessen Horowitz have each given more than $20 million to the PAC network, including donations from executives and the firms themselves.

“The crypto community is united to help elect leaders who support American innovation and job creation,” Josh Vlasto, a spokesperson for the group, said in a statement.

Job quitting fell last year — Americans quit 6.1 million fewer jobs last year than in 2022 — a decline of 12 percent — with quits falling in December to the lowest monthly level in nearly three years, WSJ reports.

No longer driving the day — From our Declan Harty: The SEC was supposed to get together this morning to usher in the latest Treasury market reform of Chair Gary Gensler’s agenda. But the agency hit the pause button late Tuesday, rescheduling the vote on its so-called dealer rule until next week.

“As the Chair has said, the Commission moves to adopt rules only when the staff and the Commission think they are ready to be considered,” an SEC spokesperson told our Declan Harty. “In this case, we’re taking a few more days.”

The proposal, as drafted, would put a broad swath of speedy Wall Street traders dealing in the $26 trillion Treasury market under new regulatory scrutiny. But many hedge funds and other investors have voiced concern about getting roped in, too.

From The Capitol

Financial Services Rs push for sanctions-based China investment crackdown — More from Jasper: House Financial Services Republicans touted a sanctions-based approach to restricting outbound investments in China at a hearing Tuesday, pushing back against GOP China hawks who are advocating for sectoral restrictions on investment in the country.

“Clarity and [being] targeted and defined is very, very important and a sanctions approach does that,” said Rep. Andy Barr (R-Ky.), who introduced a bill that would restrict investments in China with entity-by-entity sanctions. “It’s red light, green light — there’s no ambiguous yellow light. And that’s what I’m concerned about a sector-based approach — a big yellow light and a lot of confusion by the private sector [about] whether the investment is OK or impermissible.”

Barr and other top Financial Services Republicans are working to negotiate a compromise with GOP China hawks who are pushing for legislation that would restrict investments in China on a sector-by-sector basis.

“We agree that we must cut off revenue to the CCP’s military-industrial complex and other bad actors,” said House Financial Services Chair Patrick McHenry (R-N.C.). “It’s critical we pursue solutions that don’t kneecap one of our greatest strategic assets, which is our capital markets.”

Cutting edge — Senate Banking Chair Sherrod Brown (D-Ohio) on Tuesday called on the Federal Reserve to begin cutting interest rates early this year, joining a group of Democrats who say the central bank should begin easing monetary policy in order to lower housing costs, Jasper reports.

A very happy birthday — Rep. Bill Huizenga (R-Mich.) is throwing a “birthday fundraiser” at Sazerac House tonight for his 55th birthday, our Eleanor Mueller reports.

House Speaker Mike Johnson will be a “special guest” — as will “all the leadership” and “all the [House Financial Services] subcommittee chairs, including French [Hill] and Andy [Barr] and Blaine [Luetkemeyer], because we do that for each other,” Huizenga said in an interview. He added that he's already raised more than $125,000 headed into the event.

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