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The Fed vs. The Economy

The ongoing tragedy in Ukraine is rightly commanding the world’s attention. That written, at the risk of sounding hardhearted, we think the defining issue for the markets this year – and likely next – will be the budding confrontation between the US Federal Reserve and the US economy.

Since late 2021, when the Fed abandoned the idea that inflation would prove transitory, our central bank has been pivoting to a more restrictive view of monetary policy. That view has gained credence of late at the Fed as inflation has run at historically high levels and the Fed responded to that inflation dynamic by raising the Fed Funds Rate by 25 bps at its March meeting. Last week, we heard from several members of the Fed’s rate-setting body, the Federal Open Market Committee or FOMC, that the Fed should raise rates faster and higher than the bank had hinted at previously – a message amplified in the March Fed meeting minutes that indicated several FOMC members thought 50 bps rate increases could be warranted at future meetings; and those same minutes laid out the Fed’s plans to begin shrinking it balance sheet by $95 billion a month, a faster pace than when the Fed unwound its post-Great Recession balance sheet from 2017 to 2019.

While the Fed moves to a more hawkish view of inflation and rates, we have a US economy marked by a 3.6% unemployment rate, unemployment claims at an all-time low, and 431,000 new jobs created in March, the 11th straight month of gains above 400,000 – the longest such stretch of growth in records dating back to 1939. It is also worth pointing out that despite the more strident tone from The Fed, financial conditions have eased of late (which should mean companies and consumers can more easily access capital), as reflected in a meaningful drop in credit spreads (see charts), while the US Yield Curve has steepened, an historic harbinger of better economic times to come. Many on Wall Street think the Fed will go too far, too fast on raising rates, and put the economy into recession, which could happen. For now, we remind ourselves that monetary policy remains accommodative, the US economy remains strong, and the Fed has engineered “soft landings” in the past. We are hopeful the Fed can do so again.

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The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Brinker Capital Investments, LLC, a registered investment advisor. 0601-BCI-4/11/2022

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