Burns or Volcker?

We get a big bunch of data reports this week: GDP revisions and economy-wide corporate profits for the first quarter; durable goods, new home sales, personal income, and consumer spending for May; home prices for April. Throw in some regional manufacturing reports for June by various Federal Reserve Banks. In other words, by the end of the week, we should know more about the recent underlying trends in the economy.

But the one report we will be following the most is the one that might get the least media and investor attention: the Fed’s report on Tuesday about the money supply. No matter how you slice it – M1, M2, or M3 – the key measures of the money supply have all been falling lately.

In turn, this means the Fed has been tight. It remains to be seen how quickly this tightness can get inflation back down to the Fed’s 2.0% target, but that’s where it would ultimately head if these measures of money remain in decline. Hence our focus is on Tuesday’s report, where we will see whether monetary policy has stayed as tight as it’s been in the past few months.

Meanwhile, for those still focused on short-term interest rates, back on June 14 the Fed tried to have its cake and eat it, too, when policymakers decided to refrain from raising rates but, at the same time, signaled two more quarter-point rate hikes later this year.

The most absurd part of all this is that the decision was unanimous; literally, not one policymaker dissented from this “split the baby” tactic. We say it’s absurd because have you ever known even just two economists or policymakers to agree on everything? And yet the Fed is trying to represent itself as an organization with no alternative thoughts or narratives as if it were part of the government of North Korea or the old Soviet Union.

Either way, while we recognize the absurdity of the Fed unanimously supporting skipping a rate hike while signaling two more later this year, we think the Fed is likely to follow through on its projections of two more rate hikes. We are forecasting that when all is said and done that the economy ends up a little weaker than the Fed expects this year, but inflation stays higher than the Fed thinks. Combined, if we are right, that should keep the Fed on track to raise rates as it recently projected.