What if Powell gets what he wants?
One of the oldest adages in markets is 'don't fight the Fed'.
That's why I find some of the commentary around Powell and inflation a bit puzzling.
Meanwhile, the question that's almost never asked is: What do Powell and the Fed want?
The answer is that they want sustained inflation above 2% and a solidification of inflation expectations. They want nominal growth around 4%. They want that inflationary impulse to be strong enough that they can eventually raise overnight rates back to +2%.
It's a long path, but it's important to ask what it means for markets.
The main thing is bonds. It's a calamity for long bonds. It wipes out all the real returns in everything. At least at the short-end you can wait it out but for anything longer than 10-years, your mark-to-market losses are enormous.
I tend to think that causes many problems and so would a reset to mortgage rates 200 bps higher. Maybe that's self-correcting but I'm puzzled at the market's lack of respect for the Fed.
Right now there's this three-way game of chicken ongoing where rates traders are betting the Fed backs down while bond buyers are betting that inflation doesn't come. Meanwhile, equity traders are trying to hang on as long as possible before bailing at the first hint of hikes.
Someone is going to lose badly here. I think the better bet is on Powell to keep his word.
