The Fed Chairman, Jerome Powell’s much-awaited speech at Jackson Hole spurred a lot of speculations and dissections. Stephen Dover, Chief Market Strategist, of Franklin Templeton analyses the nuances of the speech by Fed’s Powell. The asset manager calls the initial market response to the speech as minimal. At the same time, it observed that the equity and bond prices bounced around immediately after the address, however, it diverged by the end because stocks closed higher while bond yields rose. 

According to Dover, Powell spoke a lot about the economy and inflation, but his stance on the future Fed policy was ambiguous. The asset manager summarises Fed’s Powell’s speech as a repetition of recent economic data, with a deep focus on the central bank’s preferred measure, core personal consumption expenditures.

While Powell avoided saying anything about the future rate decisions by the Fed, he highlighted possibilities of a longer pause or additional rate hikes, indicated Franklin Templeton. “But by failing to mention rate cuts, he sent his clearest message of the speech, namely that the Fed is either on hold with an already restrictive stance or might hike rates further,” asserts Dover. “Easing anytime soon, however, is off the table,”  he adds,

The asset manager feels that the Fed somewhat reflects the idea of the Philips Curve that propounds an inverse relationship between inflation and unemployment. “Fed is sticking to the view that the achievement of its 2% inflation objective requires “slack” in the economy. “Slack” is, of course, a euphemism for job losses,” according to Dover. Franklin Templeton is not aligned with this view. It cites economists and explains that the Philips Curve has become less reliable over the decade, and it has never depicted a relationship between inflation and unemployment. “Specifically, the implication is that policy must remain restrictive (or become more restrictive) until the unemployment rate rises,” highlights Dover. He calls it a ‘policy error’ of the Fed and also reminds us that the Fed’s threshold of ‘slack’ or US unemployment is 4%, compared to the current rate of 3.6%.

Summarising the speech, Dover infers that interest-rate cuts will only occur once US unemployment rises above 4%, which could be in 2024. Secondly, the Fed wants to tell investors that the US economy must slow down now. Thirdly, the Treasury yield curve is likely to stay inverted and could invert further. ”That’s because the Fed must be willing to risk recession in an effort to restore price stability, which is likely to occur,” explains Dover. The asset manager also hints at a sudden turn of events and concludes by saying, “Ultimately, investors may be surprised by how rapidly the Fed might eventually be forced to unwind its tightening stance.”

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