Daily Commentary

MarketMinder’s View: This screed spends many, many pixels to make a simple point we have long made: Fed decisions are unpredictable. After the Warsh Fed hiked the fed-funds target range by 0.25 percentage point to 3.75% - 4.00% yesterday, many presume this is the first of multiple. But this isn’t a given, as back in March 1997, then-Fed Chairman Alan Greenspan did a “one-and-done” rate move. “Like Greenspan, who was known as the ‘Maestro,’ rookie Chair [Kevin] Warsh finds himself in fine-tuning mode. Squint past the noise of volatile oil prices and other temporary factors, and underlying inflation may be as low as 2.3%-2.7%—above the 2% objective, but hardly an inferno. Warsh’s problem is that it’s been above target for five and a half years and is no longer cooling, and it probably needs a nudge to resume its 2022-2024 disinflationary trend. Greenspan’s calibration challenge was similarly nuanced: Economic growth was strong and unemployment had fallen sharply. Policymakers wondered if the economy was at risk of overheating, triggering inflation down the road.” Now, we don’t know Warsh or the rest of the FOMC’s rationale for hiking yesterday. Perhaps it was because of the latest inflation trends; maybe it was to buttress central bank credibility and safeguard the Fed’s independence; it might even be for some reason nobody but the voting members themselves will know until meeting transcripts arrive in five years. But the upshot: While we think a hike is a mistake, it isn’t a disaster for the economy or markets right now. However, whatever their reasoning, going too far with the hikes could risk inverting the yield curve and tightening credit—a negative worth monitoring for. For more, see today’s commentary, “The Ineffectual Fed Hike.”

MarketMinder’s View: Back in July, Japanese Prime Minister (PM) Sanae Takaichi announced a consumption tax cut (lowering the sales tax on food from 8% to 1% starting in April 2027)—a measure aimed at addressing cost-of-living concerns that also stoked worries about rising fiscal deficits. While new policies—especially taxes—grab attention, the details matter. As this article explains, the Finance Ministry is scouring for how to pay for this tax cut. “Roughly ¥5 trillion in funding a year will become necessary to lower the consumption tax rate on food from the current 8% to 1% and then provide low- and middle-income workers with benefits equivalent to the 1% tax rate. The candidate sources for this funding are generated from so-called special taxation measures — incentives to provide tax relief for policy purposes — and the revisions of subsidies. … The Finance Ministry will begin full-scale budget screening, and backlash is expected from companies and other entities that benefit from such measures or subsidies.” Some experts think the government will struggle to find places to cut back and may resort to issuing bonds to fill the revenue shortfall—which will supposedly “deteriorate the country’s fiscal situation.” That seems like a stretch to us and more of a sentiment-driven reaction in line with worries about the weak yen, public debt and rising yields. Contrary to the common recent view, Japan’s fiscal health is fine—a debt crisis doesn’t look likely for the foreseeable future. Rather, the more interesting takeaway is in the conclusion—it will likely be difficult for the government to bring the consumption tax rate back to 8% following this two-year window. The late former PM Shinzo Abe postponed consumption tax hikes twice before, so as with any government policy, don’t presume Takaichi (if she is still in power) will make good on her current pledge to sunset this tax cut. Politicians like nothing more than to extend popular policies to win brownie points with their constituents and like nothing less than being seen as party poopers.

MarketMinder’s View: As this article notes upfront, headlines often go into overdrive over arbitrary round number milestones—$1 trillion market caps, Dow 10,000, etc.—but there is nothing magical about them. So it goes with 5.0% 10-year Treasury yields, which some imply could pop the “AI bubble” or cause US stocks to struggle more generally. But why 5.0% and not, say, 4.9% or 5.1%? Moreover, we have seen this movie before—and not too long ago: “Why can’t this economy and market handle a breach of 5%? Yields last eclipsed that level in 2023, accompanied by even more frightening commentary. Pessimists believed at the time that the economy was being sustained by a fading cash cushion left over from pandemic transfers and years of involuntary saving, and that we’d face a reckoning once the cash ran out. Projections of a late 2023 or early 2024 cash cliff never panned out. Rather than a meltdown, the intervening years have seen corporate profits, household wealth and the S&P 500 Index all surge to new records; debt service ratios remain relatively low; and the broad economy produce above-average growth.” For many, the main financial significance of higher yields is they translate into 7%+ mortgage rates, making it harder to buy a home. But again, housing affordability issues aren’t new—and haven’t stopped the economy or stocks. To see why, the piece helpfully tabulates household consumption items that aren’t interest rate sensitive (think healthcare, food, fuel and utilities)—over 60% of consumer spending. Seen in this light, 5% yields aren’t the looming threat many make them out to be. “Higher market rates are, however, just as much a reflection of strong economic growth at the aggregate level—a perfectly normal feature of a humming, if uneven, economy. Ten-year yields averaged about 5.8% in nominal terms from about 1990 through 2007, and today’s 2.6% inflation-adjusted, or real, yields look close to average. The difference is that we’ve emerged from the anomalously weak 2008-2021 period in which nominal growth was uniquely low and global central bank policy was extraordinarily accommodative.” For more on why the end isn’t nigh, please see last month’s commentary, “Why Treasurys Aren’t in Trouble.”