The Fed's Dovish Twist - Only Surprising on the Surface

Rate Cuts, Money Printer Go Brrr, and Biden

"The Federal Reserve is not only too big to fail, it's too big to be held accountable."

~ Thomas Massie

Last week at its Federal Open Market Committee (FOMC) meeting, the Fed made it clear that it will go back to stoking inflation.

Leaving the Fedspeak aside, here's the gist: The Fed wants to cut interest rates three times this year, each time by 0.25%, with the goal of reaching a range between 4.55% to 4.75%.

That's the plan for 2024. But the Fed's expectation is to lower them even further in 2025 and 2026.

Now, this is quite a turn... and quite an odd one at that in terms of the timing. First, you've got the stock market recently hitting all-time highs. Gold and Bitcoin are also hovering near their all-time highs.

And hold on a second, isn't the Fed supposed to be fighting inflation? Didn't it come in pretty hot recently?

It did.

The PCE (or Personal Consumption Expenditures) — the Fed's preferred gauge for measuring inflation — jumped by 0.4% in January, hitting its fastest pace in almost a year.

The inflation report for December was not great either.

Leaving aside the fact that the whole core PCE thing is a sham because it excludes food and energy (the two things Americans depend on the most), the Fed, being all "data-dependent," is shrugging off the data it doesn’t like.

Alright, that's pretty noteworthy on its own, but that wasn't the only jaw-dropping news from the Fed last week.

It came from Fed Chair Jerome Powell himself, who suggested that the central bank could ease quantitative tightening (QT) "fairly soon."

You probably heard of QT – it's when the Fed sells off securities or lets them mature to pull money out of the market and tame inflation. It's like the opposite of QE, which is basically just money printing.

Now, it seems like the Fed might start easing QT even before they cut rates.

Never Mind the Mountain

That's quite a swift turnaround… especially considering that the Fed's attempts at tightening up have hardly been a success.

You see, the Fed is still sitting on nearly $7.5 trillion worth of debt because of all that QE, or money printing it did previously. And they got that amount by magically conjuring up the cash and swapping it with banks for the bonds they're holding.

As you may recall, there was quite a bit of that during the pandemic when the Fed abandoned all semblance of sanity, injecting cash into banks left and right. When the dust settled, its balance sheet had ballooned to a record high near $9 trillion.

Since mid-2022, however, the central bank has been in a tightening mode.

And yet, despite almost two years of all the QT it's been doing, the Fed has only managed to shrink its balance sheet by about 16%. Just take a look at this chart below.

To say that it's unimpressive would be a gross understatement. But it’s by design.

You see, the easiest way to reverse QE would've been for the banks to hand the money back to the Fed and get their bonds back. But the people who control the Fed and the big banks don’t want that. They'd rather the banks and their Wall Street buddies hang onto the cash... and, well, I don’t know, continue to play the stock market casino, maybe.

Another option would have been for the Fed to sell bonds directly into the market. But if they were to offload a big chunk of those bonds they're holding, it could tank the bond market.

So, the Fed hasn't done either of those things. Instead, they've opted to unwind QE by letting bonds "roll off," which basically means they don't print more money to buy new bonds when the ones they hold mature.

Put another way, it's all been for a show.

And now apparently, the Fed is saying, "never mind that mountain of cash sloshing around the economy altogether, let's get ready to crank up the money printer.”

Doug Casey: Given a choice — and they have a choice, based on whether they keep printing or not — the government and the Fed will definitely veer towards more inflation. Everyone in office just hopes to kick the can down the road for at least one more cycle. Print more money and try to take interest rates even lower. The result will be hyperinflation, or close to it. And lots of new government controls of all types.

Of course, the question is…

Why Is the Fed Doing it Now?

The obvious reason for wanting to cut rates and ease off on tightening – with inflation still on the loose, and stocks near record highs – is the upcoming election.

With less than eight months to go, the 2024 presidential election is fast approaching, and Joe Biden desperately needs some help.

Americans dislike his handling of the economy and the polls make that pretty clear. Most of them are showing either a neck-and-neck race or a lead for Trump across the country.

But the Fed believes - unofficially, of course - that it can change that.

Even though it only regulates an overnight borrowing rate among banks, slashing this benchmark – set at 5.25%-to-5.50% since last July – will translate to lower mortgage rates, cheaper car loans and easier financing terms for small businesses.

No doubt about it, rate cuts should be a crowd-pleaser. They'll boost confidence in the economy, especially as people are paying closer attention to the election.

If Biden can ride a growing economy, low unemployment, and cheaper credit into Election Day on Nov. 5, his reelection chances could increase dramatically. Lower inflation be damned...

But to aid Biden politically, the Fed can't afford to cut rates too slowly... which is why I don't think they will wait until Fall.

Unsurprisingly, Biden himself has already been incorporating future Fed decisions into his campaign:

"I can’t guarantee it, but I’ll bet you — I’ll bet you those rates come down more because I bet you that little outfit that sets interest rates is going to come down," Biden stammered during a campaign stop in Philadelphia earlier this month.

In short, full-blown money printing is just around the corner.

But this isn't necessarily a bad thing. Why? I’ll leave you with this note from Doug Casey:

Money printing means more bubbles will be created. And while bubbles are the enemies of a sound economy, they’re the friend of the speculator. The current mania in Bitcoin is an example.

In particular, I’m looking forward to a bubble in commodities in general, and precious metals in particular. And not just a bubble, but a hyper bubble in mining stocks.

Until next time,

Lau

P.S. Another reason for the Fed’s decision to bring back the money printer is that something is broken in our economy. The Fed knows it, so it wants to kick the can further down the road. Stay tuned for Part 2 of my later this week, where I'll dig deeper into that.