Brainard, a member of the Fed's Board of Directors, described the task of reducing inflation pressures as "important" and said the central bank would raise interest rates steadily as soon as next month to begin a balance sheet cut. If we look at Brainardı's statements;
· The FOMC will continue to tighten its monetary policy methodically, by rapidly starting to reduce the balance sheet through a series of rate hikes and with our May meeting.
· Given that the recovery is much stronger and faster than the previous cycle, I expect the balance sheet to contract significantly faster than the previous recovery.
· The decrease in the balance sheet will contribute to the expected increases in the policy rate reflected in the market prices and the tightening of the monetary policy above and above the Committee's Economic Forecasts Summary.
· Russia's invasion of Ukraine is a “seismic” geopolitical risk and human tragedy that reverses the risk of inflation.
· Inflation has different effects across income quintiles, with low-income households spending 77% of their income on necessities, while high-income households spending 31%. This segment does not have the opportunity to shop online, they spend all their income on basic products. Even though the prices increase, they will not be able to substitute cheaper products and will have to buy less because they already use the cheapest products.
· Currently, inflation is very high and open to upside risks.
· On the other hand, I pay attention to signals from the yield curve on different horizons and other data that may suggest an increased downside risks to operations.
Also, Kansas City Fed President George said that when policymakers meet next month, there will be a half-point increase on the table:
· I think 50 basis points would be an option we should consider.
More details on how officials will proceed are expected to be announced when the minutes of the Fed's March 15-16 meeting will be released today. The last time the Fed shrank its balance sheet in 2017, it started with $6 billion in Treasury and $4 billion in mortgage-backed securities per month and grew to $30 billion and $20 billion in a year. It is now much more likely that the Fed will pursue an asset reduction path faster than the 2017 model balance sheet reduction, with some details likely to emerge in the minutes to be released tonight. The U.S. central bank ended its asset purchases last month and raised interest rates by a quarter point, while forecasting at least six more increases for the remainder of this year to rein in the hottest inflation in four decades. Brainard's comments raised the importance of asset flow to the FOMC's overall tightening understanding. Investors are betting that the Fed will raise interest rates by half a point at its May meeting.
Fed's current dot plot... Source: Federal Reserve, Bloomberg
The consumer price index rose 7.9% in February, its highest level since 1982. The Fed's 2% inflation target is based on a separate measure, the personal consumption expenditures price index, which rose 6.4% in the 12 months through February. Brainard's policy comments show she is somewhere near its forecast of an average of seven rate hikes this year, but is ready to go faster if inflation doesn't drop. This not only increases the impact of rising returns on asset allocations, but may also develop post-2008 trend-like capital movements to the detriment of EMs. In this case, Eastern Europe, Turkey and Latin America are expected to be affected by different coefficients. Europe, which is directly exposed to Russia, and Turkey, which does not make any use of monetary tightening, may be more disadvantaged, and Latin America, which is positively affected by commodity prices, may be more resilient.
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