Fed officials just won't listen to us! We warned them that the economy didn't need the four cuts in the federal funds rate (FFR) at the end of 2024. The Bond Vigilantes agreed with us and pushed the 10-year Treasury bond yield up by 100bps at the time (chart). The same happened late last year. The Fed lowered the FFR three times. The bond yield drifted higher and continued to do so this year.
We correctly anticipated that the FOMC would pivot from its dovish stance in April to a hawkish stance in June. Then we predicted that the committee would follow up with a rate hike in July. They didn't listen to us. Once again, the Bond Vigilantes are pushing bond yields higher. In effect, they are saying that if the Fed won't be vigilant about inflation, then they will have to maintain law and order in the economy.
Under the circumstances, we conclude that the Fed has to raise short-term rates to lower long-term rates. Talking hawkish but not acting so reduces the Fed's credibility.
At the FOMC meeting today, the committee voted 9-3 to leave the federal funds rate (FFR) unchanged at 3.50%-3.75%. Beth Hammack, Neel Kashkari, and Lorie Logan dissented, each preferring a 25bp hike. Fed Chair Kevin Warsh struck an unambiguously hawkish tone at today's press conference. He emphasized (again) that the economy remains resilient and inflation is still above target. He reiterated that restoring price stability is the Fed's top priority. Indeed, the FOMC statement closed with the same reassuring pledge as last month: "The Committee will deliver price stability."
Delivering price stability is exactly what the Bond Vigilantes want the Fed to do. Ahead of the meeting, the 2-year Treasury yield traded roughly 75bps above the federal funds rate, indicating that the Fed should reverse last year's FFR cuts that were billed as insurance policies to protect the labor market from weakening. At the time, inflation seemed to be heading closer to the Fed's 2.0% target.
