The financial markets really, really want the Federal Reserve to cut interest rates this year. So much so, in fact, that the markets have already pretty much made the cut for the Fed.
Yesterday, for instance, the yield on the three-month government bill topped the yield on the 10-year note by the most since the 2008 financial crisis. Yields aren’t supposed to invert like that — the shorter securities are supposed to pay less than the longer ones.
When inversion happens, the financial community figures that the Fed has no choice but to bring down rates on the short-term securities it controls.
But it was a bit troubling for Wall Street when the Fed last week indicated that it wasn’t thinking in that direction.
There are at least two things that people are missing that could be causing the Fed to balk at cutting rates.
One, is that the direction of the economy isn’t certain right now.
While industrial production, retail sales, durable goods orders and a number of economic surveys have weakened recently, the most important figure of all, employment, remains very strong.
And another monthly labor number comes out next week. If employment in May was also strong — like I think it will be — then the Fed may be even more hesitant to give the financial markets what they want.
The second reason why the Fed may be hesitating is political.
Democrats in the House have been pushing for the impeachment of President Trump. While there’s no way he can be removed from office — because the Republican-controlled Senate would have to go along — the Fed could be concerned about confusion in the financial markets this could cause, especially among foreign investors.
On Wednesday, for instance, the stock market fell sharply after special counsel Robert Mueller remarked on Trump’s vulnerability in his investigation.
Keep in mind that when impeachment proceedings began against President Clinton in 1998, the Fed, under then-Chairman Alan Greenspan, began a series of rapid-fire rate cuts — specifically in September, October and November of that year.
And interest rates were a lot higher back then than they are now.
So, with fewer cuts at his disposal because the Fed funds rate is already low at 2.50%, current boss Jerome Powell may hold back on any move.
Powell may also be doing so because impeachment isn’t the only threat coming out of DC.
Anyone who has been following the Washington saga sees that there will likely be charges against people who conspired to cause Trump to, first, lose the election and those who then tried to get him out of office once he was voted in.
This generation of investors has already gone through an impeachment process. But the world has never seen the second part of this drama — the charges that are likely to come against people who conspired against Trump.
There’s no telling how Wall Street is going to handle all that.
So the Fed may be biding its time before having to use the only weapon at its disposal — interest rate cuts.
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