Mohamed El-Erian, chief economic adviser at Allianz, has pointed to the reason why Wall Street soared and US bond yields slowed after Fed Chairman Jerome Powell’s press conference: his claim that rates have already reached their neutral level. A fact that El-Erian himself wants to believe: ” Count me among those who hope that Powell is absolutely right “, he writes today in an opinion piece for the Bloomberg agency.
At yesterday’s press conference, after raising rates 75 basis points to 2.25%, Powell explained that, in the Fed’s opinion, that level is already “neutral” , that is, it neither stimulates nor cools the economy, and that the next hikes will take rates into restrictive territory. The statement that this is the neutral level, thus, indicates that this is the point that rates will return to when inflation instability is over, and opens the door that further hikes may not have to be as high as feared.
In fact, Powell indicated that his idea is for rates to rise between 75 and 125 basis points more in the remainder of the year , a key figure to encourage markets by taking their foot off the accelerator of tightening. “Markets are translating this into the view that the Fed now believes it has already done most of what is needed to tighten monetary policy . Let’s hope he is right,” says El-Erian.
If rates don’t have much more room to rise, ” the chances would grow that the Fed could soft-land the economy , thereby reducing inflation without triggering worrying financial instability.” The idea sounds so good that “it’s not surprising that markets brush aside other more dovish comments” by Powell at the same press conference, such as “the likelihood of unemployment stabilizing at a higher level; the large number of economic uncertainty; the need for the Fed to go “meeting by meeting” in its monetary policy decisions; and the difficulty of providing guidance on its future moves.
Even so, the former CEO of PIMCO warns that ” I have a feeling, although I am far from sure, that we are still below ” the true level of monetary neutrality. ” I hope I’m wrong ,” he admits. “Otherwise, this will mean heightening my fears about the spillover effects on the economy from a Fed that took too long to understand and adequately respond to inflation.”
Precisely, El-Erian has spent months showing his pessimism about the Fed’s movements , and his fear that the soft landing will end in disaster given the slowness of the central bank in reacting.