Instant Reaction: The Fed Decides

0:00When the rest of the markets slow down, the futures market keeps moving. Did you know that CME Group S &P 500 and NASDAQ 100 futures trade nearly 24 hours with great liquidity? In the ETF markets, volume and liquidity lessens after 4 p.m. until the next morning. But with futures, you get trading opportunities both day and night. Learn more at cmegroup.com slash equity futures. So there's a lot of noise about AI, but time's too tight for more promises. So let's talk about results. At IBM, we work with our employees to integrate technology right into the systems they need. Now, a global workforce of 300 ,000 can use AI to fill their HR questions, resolving 94 % of common questions.

0:45Not noise. Proof of how we can help companies get smarter by putting AI where it actually pays off, deep in the work that moves the business. Let's create smarter business. IBM. Everyone has been there. Your team's feedback is scattered across emails, chats, and sticky notes. It's a mess. But PDF Spaces and Adobe Acrobat gives you one collaborative workspace to streamline every file and comment. So, if you need six departments to finally agree on a proposal, do that with Acrobat. Need to turn a mountain of feedback into one plan of action? Do that with Acrobat. Want to stop searching for files and finally get everyone on the same page?

1:25Do that, do that, do that with Acrobat. Learn more at adobe.com slash do that with Acrobat. Bloomberg Audio Studios. Podcasts, radio, news. This is a breaking news update from Bloomberg. Instant reaction and analysis from our 3 ,000 journalists and analysts around the world. With that Fed decision, here's Mike McKee. No change in rates, no change in dots, one descent, but some big changes in inflation expectations. Fed officials see one cut still in 2006 at some point, even though their statement notes that uncertainty about the economic outlook remains elevated. Three members who favored no cuts in this year moved their dots down to one.

2:18The statement goes on to say the implication of developments in the Middle East for the U.S. economy are uncertain. and the committee remains attentive to risks to both sides of their mandate. They still see one more cut in 2027. Stephen Myron, the only dissenter, he wanted a quarter point cut this time. And from the dots, we discern that he still wants 100 basis points at some point this year. The language about future moves remains the same. They still talk about the extent and timing of additional adjustments to the target range. It's the summary of economic projections in which we see a lot of changes.

2:55PCE inflation this year is forecast at 2.7 percent, up from 2.4 percent in December. Core is also seen at 2.7 percent, up from 2.5. Both dropped to 2.2 percent next year, up from 2.4 percent in the December SEP. Core is seen at 2.7 percent this year. Both dropped back, as I mentioned, next year to 2 percent in 2028. GDP marked up a tenth in both years, both of the next two years, to 2.4 % this year and 2.3 % next year. The unemployment forecast remains 4.4 % in 2026, dropping to 4.3 % next year. That's up from 4.2 % in December. And the longer-run estimate for Fed funds, seen as the proxy for the neutral rate, rises a tick to 3.1%.

3:50Mike McKee, thank you, sir. We'll catch up with you a little bit later. So let's start with the price action. We'll go equities, then bonds. We'll have a sneak peek of what's happening in the commodity market because we're tracking that throughout the day here at Bloomberg. Equity markets looking at the S &P 500. Off-session lows, but still negative by 0.5%. In the bond market, yields slightly higher on a two-year buy, two basis points, basically as you were at 370 on twos, on tens at about 421, which is basically where we were going into this decision. So this is what we're doing. You go into the projections.

4:20We'll ignore the statement just for a while. We go into the statement and we'll look at the projections and compare what they were projecting back in December and have a look at what they're projecting now. So let's just go through 2026 for GDP, revised slightly higher. That's some good news. 27 as well. Same thing, by the way. So they revised GDP higher. They revised inflation higher. And they've kept the projection, the implied projection for interest rates, exactly where it was for December. Those kind of moves should be music to the ears of bullish market participants. This is an incredibly dovish hold just by virtue of the fact that only one person dissented and it was Governor Myron.

4:56That alone. But these projections highlighting a tolerance for higher inflation and still the belief that it will come down by 2027 to that 2 percent level without hiking rates and continuing with rate cuts gives you a sense of where this Fed's mind is at. This seems like more of a consensus than I expected, than a lot of people expected. And it is more to looking through any kind of oil price shop. In honor of Alan Greenspan's 100th birthday, it was a Greenspan decision. Everybody got on board with the chairman. That's all there is to it. And the out years, the good news on the inflation front, you decide whether this is good.

5:30The Fed is still basically forecasting the same inflation glide path as they were before, even with this lift to 2026. How do you say transitory without saying transitory? It's in there in the forecast. And that's the reason why you're seeing the yield curve steepen. And on the margins, you're seeing 10-year yields higher on this, because ultimately, this is a Fed that is willing to stay on hold and look through an oil price shock, look through the fact that even core PCE has been higher than expected and is expected to stay that way. Because ultimately, they do think the labor market is showing signs of cracks, even though they don't necessarily see unemployment rate ticking up.

6:01And they do want to err on the side of being more accommodative. One official I'd like to speak to just briefly, get him on the phone. Governor Waller. I was about to say, Chris. No dissent. He said it was a coin flip. It would come down to the labor market report. And that labor market report was overwhelmingly soft. So what does he see in the outlook for inflation that's kept him on the sidelines? Governor Waller, please join us if you want to call in. We'll take you. I mean, ultimately, that is one of the key players because he is a pillar of the swing vote, if you will. And a lot of people are looking to him for some sort of guidance about what exactly is driving his decision.

6:31But at Washington State, he was expert on game theory. And when there's a war, there's a different game theory. This is a major shock we're working through. Bob Michael at JPMorgan Asset Management still with us around the table. Bob, do you have any thoughts off the back of this one? I do. They're telling us, don't worry about it. There's a little bit of a near-term inflation shock. They added a tenth more than we did. But it's fine. The economy is going to use that to accelerate. So they increased GDP. That I don't get. And they left unemployment where it is. And it also doesn't sync with the dots.

7:06I heard Mike McKee say that three members who previously voted for no cut changed their view and went to a cut. The median dot 3.4, December projection, the median dot 3.4. Joining us now to discuss is the former Fed Vice Chair, Richard Clarida. Now, Rich, I know the word transitory is banned and they can't use it anymore, particularly in the news conference. But does this scream transitory? Well, it certainly screams we need a we need a synonym for it. Temporary, not long lived. You know, they could justify it perhaps by looking at the oil futures would still show this as dissipating over time.

7:47But the short answer is nobody, including the Fed, knows this is very elevated geopolitical risk and and there are risks on both sides. But the baseline, I agree with your your panel, is is dovish constructive. Rich, I'm just wondering how much this is just AI written all over it, how much this is a Fed that is basing their entire assumption on a productivity boom tied to artificial intelligence and the deployment of it through the economy and, frankly, disinflation on its heels. I think there's an element of that, perhaps more so with the incoming chair than some other members. I think it's also a statement, however, that AI is a support to demand in the economy that to some extent, along with those big, beautiful bill tax cuts, is probably going to offset some of what the drag would be from the oil price increases.

8:40But again, this is a modal or a baseline. And I think certainly internally, we'll hear that there was a discussion of the risk cases as well. Professor Clareter, when you were at Columbia herding cats, Xavier Salah Martin taught the acclaimed principles of economics. Talk to us about the risk of a demand destruction here. To me, it's extraordinary whether it's war, short term, or a more permanent demand destruction. Should that be a legitimate concern of the Fed? Well, the demand destruction comes simply from the fact that not only oil prices, but energy prices and goods that are intensive in oil and energy will go up, and that will tend to reduce the real incomes for millions and tens of millions of households.

9:27Now, on the other side of that, you have the AI boom, but there is no doubt that this is going to squeeze real aggregate demand the longer the oil shock persists. Check out the price action. Let's go to equities. We're still down by 0.6 percent. Unmoved. By one, the surface of things looks like a dovish decision from the central bank. Check out the bond market. Similar story. No big moves off the back of this. The only takeaway, this can change, but the only takeaway for me is there is nothing this institution can do to drive this market in the face of the shock elsewhere. Jeff Curry of Carlisle said it really well earlier this morning on Bloomberg TV when Jeff turned around and said there's nothing the central bank can do about this.

10:06You cannot print barrels. This market is still at the mercy of what happens in the commodity market. And the Fed is not the circuit breaker anymore because this Fed decision, I would sit here and argue, is fairly dovish. with the exception of the absence of a dissent coming from Governor Waller, is fairly dovish. To come out and say the outlook for growth is better, we've revised higher the outlook for inflation, and the median dot is exactly the same, screams dovish. And yet here we are. No big moves in financial markets. I think that's notable. The Fed is playing dodgeball without the ball. They're not the pitcher in a game.

10:38And right now, what they're dealing with is shock after shock without necessarily historic precedent. Yes, there are historic precedents for oil shocks, but not for the AI shock and what that does to the overall economy. So they might remain on hold, and that might be bullish, but not in this moment, because right now, if another oil or natural gas plant gets bombed, people are going to be watching that much more than anything coming out of Jay Powell. Vice Chairman Clarida, the thing I would point out here, Damien Sassauer at Bloomberg is very cautious on EM suddenly here. In this meeting and in this press conference, more than ever, is this the central banker to the world?

11:16Well, sure it is. And I think that the Fed is aware of that. And I think one thing this episode is reminding folks, we've seen it in the dollar, obviously, is, you know, since the Iran hostilities commence, you know, the price of gold is down, the price of the dollar is up. So I think there is that element as well. But, you know, broadly, the Fed is reacting to events. I think Lisa said said it well. First and foremost, this is a major geopolitical and economic shock. The dodgeball analogy, I think, is a good one. So I think, yes, the Fed is the central banger to the world, but it's not the main attraction right now.

11:57Bob Michael with us with J.P. Morgan. So what is the tentacles of J.P. Morgan around the world? How is EM doing? I see Philippine peso almost out to 60. You saw Australia raising rates in. Oh, whoa, whoa, whoa. We're calling Australia EM. No, I'm not calling Australia EM. Getting you in trouble, TK. No, I'm not calling. I'm watching Aussie EM, though, which is a life of its own. Sydney. Sydney watching. Well, yeah. Where's the Swiss day? There early morning, deeply, deeply unhappy with that one. But I read all the Neville shoot, including Town Like Alice. I want to know, as a central banker of the world, the sensitivities he faces, what does J.P.

12:33Morgan see on the reaction in the currency markets, the reaction in fixed income of EM as the chairman speaks? I think there are a couple of things. One, we felt going through this that the dollar would be the safe haven bid. And we're seeing a lot of that. We also felt for those who wanted to diversify away from dollar, emerging market FX was the place to go. The central banks in those regions seem to be on top of things. And you had a split between those who are energy importers and those are energy exporters, those that are sitting on rare earth minerals and other minerals and those who aren't.

13:11And I think we're seeing all of that play out. But I will tell you, our client base still feels under allocated to emerging markets, both equity and fixed income. We're seeing those allocations continue to come in. I think there's a good tailwind there. He just went along Australia. There you go. Back to back hikes at the Emerging Market Central Bank over at the RBA. See that? Honestly, there's some offended people down under right now. I'm not wearing it on this one, but I will say I will say that tomorrow will be really interesting with the BOE and the ECB. There you go. You tell them, Brammo.

13:42All right. Rich Cloud is still with us. Rich, I want to come to you on an important topic to wrap things up, a really serious one. The future for Chairman Powell. This is not how usually these things play out. Typically how this plays out, the chairman knows when his term finishes. He gets a great send off. He walks away and he does a one million dollar speech in about 12 months time and has a happy retirement. This feels so different, Rich. Kevin Walsh is ultimately being nominated. We have no idea when the confirmation hearing is going to be. Bob Michael sat here a little bit earlier and said he thinks the chairman, Jay Powell, is still going to be there by the time you get to the midterms.

14:19Rich, how do you think this process is going to play out in the next several months? Well, you're absolutely correct. This is unprecedented, unusual that the handoff is usually pretty smooth and very well telegraphed. And the difference, of course, now is several fold. One, of course, is the, you know, the DOJ investigation of Powell that the Fed is pushing back on. In addition, of course, even Warsh getting a hearing is now up in the air. You know, I certainly do expect Jay Powell will stay on and perhaps a meeting or two after Warsh finally arrives. You know, whether or not that's after the midterms, I'm not sure.

15:03I think Jay Powell will move on once Warsh is in place to his future life. But his real focus is on maintaining the independence of the institution. and I think he will be in place until Warsh is confirmed and perhaps a meeting or two thereafter. Rich, appreciate your insight on the topic. Thank you, sir. Rich Clarida there, the former Fed vice chair on this Fed decision and the chairman's future. If you are just joining us on the program, welcome to the show. So unchanged, the policy rate of the Federal Reserve about 15 minutes ago, some dissent, the vote 11 to 1, that dissent came from an obvious place, Governor Myron voting for an interest rate reduction for the projections.

15:45Big focus on what was happening with inflation. They've lifted their outlook for inflation for this year, at least, but left the median dot ultimately underposed implying one rate cut from this Federal Reserve for 2026. To me, the most interesting takeaway is what you said, which is this market doesn't seem to care, even though this is very much a dovish hold. This actually is news in Fed land. And yet the market doesn't pay attention because there's another game in town and it's everything else in the world. And some people might say, oh, no, the adults can't control this. They can't step in and save us.

16:14And the other people will say, we haven't had a free market in a long time and this is what it looks like and guess what it's a welcome uh welcome exercise and so those two sides of the debate are playing out markets you've got a free market well i mean that's the whole thing though ultimately i'm kind of excited about this i mean that's kind of a nice thing not to have the thumb on the scale all the time and same story over and over again it's a change all right it's a change it's definitely roth of wall research i can see how excited you are you're not alone i've been waiting for that moment for a long long time major moves five percent away from all-time highs even the japanese market it's now How exciting.

16:45They're actually trading the benchmark in Japan now. It's actually trading. There's actually traders. Stephanie, I'm sorry. Stephanie Rathof-Wolf Research joins us now for more. Stephanie, we need your reaction to the decision and where you expect the emphasis to be in this news conference. Yeah, I mean, the emphasis is going to be on the reaction function provided that energy prices end up staying longer. The question is, are they going to end up looking through this or do they ultimately end up having to be dovish as a result because growth will end up slowing? And our own view is that because the economy is so different today versus 2022, they'll ultimately have to be more dovish as a result of the war on Iran rather than the opposite.

17:20Otherwise, it tells you a story of productivity and that growth is actually going to be higher in the future years. But then, you know, nothing else changes. And the one thing that we didn't talk about or that wasn't talked about yet was the longer run dot shifting up a little bit. Well, this to me, Stephanie, that I'm really wondering about is how much does a more dovish Fed enable something that looks more like 1970s or more like 2022? And what we saw with inflation and the read through, is that something of a concern for you? No, because the backdrop is so different today versus 2022. If you look at 2022, the unemployment rate was 3.7 heading to 3.5.

17:57Today, it's 4.4. Hero Games is growing at 600 ,000. And today, they're somewhere between zero and 50 ,000 on average. The inflation backdrop was different. At core, inflation was five and a half. Today, it's three. So the idea that we're going to have a repeat of 2022 seems like a very low likelihood event. And therefore, that's not something I would expect the Fed to react in that way, because the data probably won't support a reflationary type of environment. Stephanie, given a war, given what oil's doing, John mentions it's 60 to basically 60 to 100 or even higher, we're still slaves to the job market.

18:31And the answer is the unemployment rate hasn't broken. With the war, with the distractions, how ex post is this fed into the summer? Yeah, I mean, I think they're going to be in an environment over the summer where base cases the unemployment rate is probably steady, but they're going to be looking at this most closely. That's going to be the deciding factor between whether they were able to cut, probably not at Warsh's first meeting, maybe in September or December. And it's going to all come down to the unemployment rate. Is it notably above 4.5, in which case they have a window to be able to ease?

19:05And if not, then it's going to be tough or worse to get the rest of the members on board. Bob, synthesize Michael Ferulli's work on this then. The fact is the labor market hasn't cracked yet. They have to wait, don't they? I think that's part of it. I'm still gobsmacked by the Fed's decision. They're basically saying all of this going on in the Middle East is a speed bump that, yeah, inflation will tick up, you know, three-tenths and two-tenths here and there, but the economy will accelerate, unemployment will stay stable, and it's off to the races. I just don't see that. I think there is a real impact to inflation and ultimately to the economy and the labor market.

19:48This is the heart of the matter, John. This is the absolute heart of the matter. And everybody has to recalibrate their X axis to how long is this going to go on? And then you get to demand destruction. We mentioned this earlier, and I think it's important to keep going over it. We've repriced a lot in this market. We've repriced energy, had a big move from the 60s out to triple digits. We've repriced interest rates. We've taken out a lot of easing for the Federal Reserve. And we've priced in hikes in places like the ECB, two of them, I think, for this year now. Yet we haven't repriced growth.

20:16And the Fed hasn't either. And And I'm not just talking about where spot is trading or the front month on the futures curve. If you go out to December and look at where December is traded right now, we're close to 80. So we've gone from the 60s to close to 80s on the December contract. And the Federal Reserve has lifted the outlook for growth. What's driving that? I wonder how much momentum they think is in the economy. How much AI and data center spending is going on? Were they surprised by the Delta earnings and that, you know, sales are at a high despite higher energy prices? I think the reality is when you've had close to a 50 percent hike in energy prices, it's a tax on businesses and households.

20:59And they will respond by cutting back some of their consumption. We have the smartest viewers, and I just want to point that out. One of the viewers just wrote in. We do. And pointed out that among the members, the actual dots might say one thing. But the risk to GDP downside included 14 members versus eight prior at the December meeting. The risk to the upside was 16 members for core PCE, as well as the unemployment rate. That was up from 12 and 13 members, respectively. So that stagflationary outcome still in the back minds of so many of these Fed members. They just aren't making this their base case.

21:34So I just I don't understand, Bob. And I guess that this is my question. Is the reaction function essentially they will hold pat even in this scenario? Or do you have a sense of what the reaction function is to true stagflation? Well, the bottom line is the market is just looking through the Fed right here and saying, doesn't make sense. Don't get it. Don't know what they were thinking. The projections don't make sense to me, but I know where we are. There's a lot of tension still in the Middle East. It's yet to completely play out. I think where we are now is about fair. It can go either way from here.

22:08So it's completely dismissive of the FOMC statement. Hey, Stephanie, before you go, what's the number one question for Chairman Powell into this news conference? Yeah, I mean, the biggest question is going to be provided energy prices are elevated through much of the summer. How are you going to think about the balance of risk? Is this going to be something that you're going to look through? And do you expect that growth is going to be lower as a result? Or is this something that you're worried about more similar to 2022? too? And what are the balance of risks in your mind in terms of how this could play out?

22:42Stephanie, good to see you. As always, thanks for jumping on. Stephanie Roth there of Wolf Research. To build on the conversation, Diane Swonk of KPMG. Diane, I'm going to use a quote of yours to ask you the question, a dual mandate or a dueling mandate? What have we got? A dueling mandate. And I think that's a real problem. I think the Fed is this dovish sort of numbers don't add up. I think I agree with that completely. A dovish pause is not what I would expect. I would have expected some people to actually put in rate hikes in this meeting, and they didn't. And I think there's a real issue about we saw rate cuts in late 2024 to shore up the labor market.

23:20We didn't get any jobs. We saw rate cuts in late 2025 to shore up the labor market. I don't think we're going to get a lot of jobs from those. That brings up the issue is, is the problem in the labor market more structural and systemic, something that rate cuts alone cannot cure and spur the demand for workers on. If that's the case, if you cut rates further, you're risking a more persistent bout of inflation or worse, a stagflationary scenario. And I think the devil in the detail is in that stagflation scenario. Also important is that they raise their non-inflationary rate. That is reflecting, yes, productivity growth and the idea that the economy can grow more robustly without having inflation, but that also means higher non-inflationary rate, which is an important marker to put down before Kevin Warsh takes on as Fed chair, since he has argued that productivity growth should lower that non-inflationary rate.

24:24That is not what the Fed is saying. And I think that's very important. But I am very concerned about five years in, we've got consumers expecting more inflation than they did in late 2024. And those expectations are going to rise, especially with salient prices like prices at the pump going up. And there's already a long tail due to the problems in the Middle East. Production idled is not easily brought back online. It's weeks to months. And we're rolling supply chains the world over. You create scarcities that go below the destruction in demand. That gives you stagflation. Diane, is this the Fed meeting where forward guidance just died?

25:08Absolutely. We didn't have a lot of forward guidance to begin with, but absolutely. And I think what really will be interesting in the chairman's comments is what was the debate in terms of growth? What went into these numbers? How did the debate fall out? I think the devil in the details here is that there is a bit of a stagflationary concern out there, and there should be. Diane, we suffer from three-zip code scenario here in New York City. You've got a much greater national perspective. I take real issue with the narrow part of America being affected by$5 a gallon gas. How much of America is going to be flat on their back from some of these shocks?