Occam's Razor Explanation for Powell's Dovishness

Occam’s Razor: The Simplest Explanation is the Best One

Powell’s dovish press conference yesterday, in the face of a drastic loosening of financial conditions which has re-ignited animal spirits, inflation expectations and actual inflation, can only be explained by the Fed’s primacy of the Fed’s “third mandate” which is to ensure financial stability of the US Treasury market.

The pivot we saw last fall from the Fed and Treasury suggests that they became very concerned about the impact of higher yields and term premiums in the August-October 2023 period and needed to orchestrate a pivot that would eventually bring down borrowing costs for the US government.

This government is currently running 6%+ GDP deficits despite full employment and will continue to do so for as far as the eye can see given the dysfunction in Washington DC that will not allow for spending cuts or tax raises. The only lever to pull to improve the Govt’s fiscal situation situation is to lower interest expense and so the Fed is acknowledging fiscal dominance and will be continue to act to deliver that result.

When you look at it from this perspective, rather than looking at the achievement of the Fed’s goals of 2% inflation and max employment and the continued improvement in data that we have seen for the last several months, I believe it all starts to make much better sense.

As a result, if interest rates are not going to be allowed to move higher to bring inflation back down to 2%, the US$ is going to be the outlet, weakening considerably against hard assets (gold, oil, commodities, BTC, etc) until the point when the Fed starts to feel uncomfortable that this re-acceleration of inflation is getting out of control again.

Clearly, after yesterday, we are not close to that point so I would expect these assets to rip higher in coming weeks/months forcing the Fed into that uncomfortable situation later this year.

For now, while there is no violence/rioting/looting over the rise in inflation, the Fed/Admin are comfortable with this plan. But later this year, into the election, should inflation reacceleration start to move toward a darker conclusion, I don’t think they will be happy with the choice they made.

My positioning biases: Long: Gold/BTC/Oil, Short: Small Caps, Short: Duration USTs

Important Disclaimer: This blog is for educational purposes only. I am not a financial advisor and nothing I post is investment advice. The securities I discuss are considered highly risky so do your own due diligence.