There has been a strong push from Federal Reserve policymakers in the last month. It meant a surprise 75 basis point hike and no-holds-barred commentary to go along with it.
That has spooked markets but if you drill down into their comments, there's a framework being built that should offer some comfort.
The biggest hawk on the board of governors -- the core of the Fed -- is Christopher Waller. The headline from his recent appearance was that the Fed is "all-in" on fighting inflation.
I don't doubt that the Fed plans to tackle inflation but monetary policy acts with a lag, so at some point they will need to slow/pause hikes and monitor the effects. In both their models, a growth slowdown (not a recession) is enough to tame inflation.
"If we can slow growth down for 9 months to a year that would be sufficient to get inflation back down without causing a recession," Waller said. "I think fears of a recession are overblown."
Between the lines, that means that if there is a recession it will mean a faster slowdown and more downward pressure on prices. So there's an embedded reaction function here where after hiking 75 bps this month and 50 bps in Sept, he will start to be more open-minded about slowing down.
"I need to see core PCE come down to 2.5-3% before feeling comfortable on really reducing interest rates," he said.
Another major FOMC hawk is St Louis Fed President James Bullard, who was rightly pushing for hikes a year ago. He continues to advocate for 3.50% Fed funds this year and that's where the market is priced for year end.
But while Bullard is well-known as a hawk, he's also optimistic on growth. He repeated an exactly same line as Waller, that the US economy has "a good shot" at a soft landing.
"Rather than stagflation, better bet is growth will slow to trend and inflation will come under control rapidly," he said.
The way I see it, the market is pricing in both the chance of high inflation and the chance of a recession. In both Waller and Bullard's framework there's only room for one or the other. So if growth does stumble, the Fed will pause. While if inflation remains high it means that the global/US economy is hot.
