Restrictive Yields Could Be Fed’s Waterloo
Restrictive monetary conditions, from higher yields and tighter lending conditions, are the Fed’s “Waterloo.”
If you don’t remember, the “Battle of Waterloo” was fought on June 18th, 1815. The battle was a catastrophic defeat for the Napoleonic forces and marked the end of the Napoleonic Wars. Before that defeat, Napolean had a successful campaign of waging war in Europe.
Today, the Federal Reserve has successfully waged a war against inflation. Of course, as is always the case throughout history, the Fed campaign has consistently met its eventual “Waterloo.”
Rather, the point where rate hikes and tighter monetary policy eventually cause a problem somewhere in the financial system. Such is particularly the case when the Fed funds rate exceeds levels associated with previous crisis events.
Much like Napoleon, who was confident entering the battle of Waterloo and the eventual victory, the Fed remains convinced of its eventual success.
Following the most recent FOMC meeting, the Federal Reserve reiterated its “higher for longer” mantra and upgraded its economic forecast to include a “no recession” scenario.
However, while Jerome Powell has one hand tucked into his lapel with a smirk, the recent surge in yields may be his eventual undoing. As shown, financial conditions have become increasingly restrictive. The chart combines bank lending standards with interest rates and the spread to the neutral rate. Due to increasing debt levels in the economy, the level at which financial conditions are too restrictive has trended lower.
Given the sharp rise in yields over the last couple of months, it is unsurprising that recent comments from Federal Reverse members suggest that bond yields have become restrictive, suggesting an end to
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