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Lisa Abramowicz: The Fed is losing control over the inflation narrative
By Lisa Abramowicz
Bloomberg News
via The Washington Post
Sunday, April 24, 2022
The Federal Reserve is poised to raise interest rates at the fastest pace in 40 years after policy makers' hawkish rhetoric turned more aggressive last week. The problem, though, is that bond traders keep boosting their longer-term inflation expectations in a very concerning development for the central bank, the economy and financial markets.
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Traders are betting that even with the Fed boosting its target for the federal funds rate by 2.5 percentage points this year to 3%, it won't be enough to get the inflation rate back down to 2% over the next decade from around 8.5% currently. This week, 2-year Treasury note yields surged to the highest levels since 2018 as Fed Chair Jerome Powell endorsed the idea of a half-percentage-point increase when policy makers meet in two weeks and saying many officials view "one or more" such moves as appropriate.
Even so, longer-term inflation expectations kept climbing. The market-implied inflation rate over the next five to 10 years rose to the highest since 2014, jumping to almost 2.6%, and 10-year breakeven rates climbed to the highest since at least 1998, surpassing 3%. The long-time bond bulls at Hoisington Investment Management Co. expressed concern in their first-quarter letter to investors, saying an economic downturn would favor buying long-term Treasuries, but "investors should be wary" of the Fed failing to sufficiently tamp down inflation.
All this suggests one of two things: either the world's most important central bank has lost control over inflation, or it isn't going to even try to get it back down to their 2% target.
"If the Fed wants to get back to 2% inflation, I find it hard to believe that a soft landing is possible," Columbia University finance and economics professor Glenn Hubbard said Friday on Bloomberg Surveillance. Traders agree, with breakeven rates suggesting they think policy makers will avoid torpedoing the economy and err on the side of doing less, not more, when it comes to tightening monetary policy. ...
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