When it comes to markets and the economy, it was a slow news week. Housing data did beat expectations. This was a positive and supports the notion that we won’t see a recession for a while, but that’s not new. Also, Fed Chair Powell testified that the central bank remains focused on getting inflation to its 2 percent target. It plans to keep rates high and maybe even raise them further. Again, we knew this because Powell has been saying it repeatedly for more than a year.
But there is one thing that’s worth some discussion: the market reaction to Powell’s testimony. It dropped and has since continued to decline. If Powell wasn’t saying anything new, then why that reaction? Let’s take a closer look.
We’ve Seen This Before
What we have seen again and again during the past several months is that the Fed will commit to getting inflation under control through higher rates, and then the market will drop as a result—just as we’re seeing now. Then, over the next couple of weeks, the market will somehow become convinced that rates are really coming down after all—and will rally until Powell or another Fed member comes out and recommits to higher rates again. It’s Groundhog Day all over again.
What Markets Are Telling Us
There are two things that matter here. First, the Fed remains committed to keeping rates high until inflation subsides. Keep that in mind and ignore the speculation and the headlines. Second, even given that and the periodic setbacks, the financial markets have shown surprising strength. Longer-term interest rates have remained constrained, and the trend of the stock market has been higher since about last October.
What the financial markets are telling us, backed by the other data, is that the Fed is pulling off what no one really expected: a soft economic landing even as inflation continues to decline. If you believe markets are rational, this is good news. Even the periodic pullbacks, as we are experiencing now, are signs of that rationality, as investors respond to current events. This is what we are seeing, and should be seeing, in a healthy economic and market environment.
So, there was not much on the news front over the past week, but the markets are functioning as they should. For that reason, we can believe that the outlook is much better than the headlines continue to suggest. And that is a good way to end the week.