Data Tells Us Fed’s Job is Done

Stocks opened mixed this morning with the S&P 500 flat, the Dow up 230 points, and the Nasdaq down .8%. WTI crude oil popped 6% after OPEC announced a surprise production cut to stem falling prices. The bond market is mixed with junk sagging but high-grade corporates and Treasuries gaining. Trading activity in bonds is sending a clear signal that the Federal Reserve’s rate hike cycle is essentially at an end.

Post mini banking crisis, we’re all trying to figure out how much credit will tighten and whether the economy will deteriorate. The Federal Reserve Bank of Dallas just reported weaker loan demand within its district (Texas and parts of Louisiana and New Mexico). Survey results revealed lower consumer confidence in banks following the collapse of Silicon Valley Bank.

ISM’s manufacturing survey deteriorated further last month, suggested business activity has fallen to the weakest level since May 2020. Both new orders and hiring among manufacturing firms have slowed significantly this year. It’s well documented that consumers have shifted away from goods and are spending more on services. But it’s also possible that, as Bloomberg News puts it, “rising interest rates, growing recession fears and tighter lending conditions may be starting to weight on business investment.” If there is any good news in the report, it is that cost inflation reversed and prices are now falling for manufacturers.

Likewise, data from the Bureau of Economic Analysis (BEA) confirmed Inflation continued to slow in February. The BEA reduced its January inflation estimate, and said February data came in slightly below expectations as well. There are a lot of ways to measure inflation and this specific measure—PCE Deflator—slowed to an annual rate of 5.0% compared to its 2022 peak of 7%. Core PCE, which excludes food & energy and happens to be the Federal Reserve’s preferred inflation gauge, slowed to 4.6%. That’s the lowest rate of price growth since October 2021.

BEA data also suggest that Fed policy is beginning to slow consumer spending. Personal spending actually decreased a bit during the month of February even though incomes continued to grow. In a way, this can be considered good news in that it suggests a sort of goldilocks type scenario is possible in which inflation and consumer demand moderate to more normal levels without tipping the economy into recession. Bloomberg Economics reacted this way: “Together with our expectation of tighter financial conditions following Silicon Valley Bank’s collapse, the PCE data showing a faster-than-expected pace of disinflation suggest the peak for the fed funds rate isn’t far away.”

In other words, additional stress on the banking system as well as slowing consumer spending and falling inflation mean the Federal Reserve has already done its job. While this is clearly the consensus of investors, however, we need the Fed to recognize it.