U.S. Fed keeps interest rates on hold, highlights lack of progress on inflation

[MUSIC PLAYING] As expected, the Fed held its key rate steady for a sixth time in a row. And joining us today with his reaction is Scott Colbourne with TD Asset Management. And Scott, a big focus today was a lack of progress on inflation and the reduction in the balance sheet runoff pace. How do you see things? Yeah. On rates, no surprise to the market. We left the-- the Fed left the rates unchanged. But the two changes you acknowledged. The first one was in the first paragraph. And Fed Chair Powell and other governors in recent weeks had sort of acknowledged that the progress on inflation has stalled out. It's not gone the way they had expected it. So that was an acknowledgment right up front. And it's going to be an important part of the statement to look forward to in going months. And the big surprise, actually, was on the balance sheet runoff, the quantitative tightening. It had been at $60 billion per month. And the Fed had given us heads up that they were going to reduce the amount of quantitative tightening. But they surprised the market modestly this month by moving it from $60 billion to $25 billion per month. But that is more of a focus on how to manage the reserves, so it's a less of a focus on monetary policy and the current implications. The most important thing for me was acknowledging that inflation progress has slowed down. OK, let's talk a little bit about the labor market. Recent data has shown that wage growth remains a concern. How does this play into the Fed's strategy? Yeah, it's sort of accumulation of the recent issues that-- the slowdown on the progress on inflation. So essentially, this week we had an employment cost index. And that was a surprise to the upside, including on the wage side. And so, really, the main focus of the Fed right here is on the labor market. I mean, they're comfortable with letting growth be good. And Governor Powell, in his question and answer period after the statement, sort of leaned that way. He both acknowledged that they prepared to cut rates if there's a significant deterioration in the labor market. And they're going to be mindful of any signals coming on the other side, especially through the mechanism of wages into inflation. So for me, the way I interpret the Fed's focus is labor market, labor market, labor market. Yeah, a big focus there. What is the bond market telling us right now about the path forward as well as the timing on rates? Well, we've moved a long way from the end of the last year where we had seven cuts. Right-- this morning, it was about one cut, maybe just a little bit more than one cut for the balance of this year, and then moving towards perhaps an end-of-cycle target of about 4% from 5 and 1/2 right now. So the bond market is saying, look, we're expecting them to be on hold for a while, higher for longer. They are just definitely in this data-dependent mode, waiting for the data to give them confidence that they can start moving and confidence on inflation, confidence on the labor market. So steady as she goes. Unlikely that we're going to see a big sell-off on the bond market, given just sort of this status quo, hold the fort mentality. There's also been a lot of talk about stagflation. How real a concern is this? I-- going way back, stagflation, what we used to know is not what is the current dynamic. I mean, when you strip away the trade side and some inventory movement, real domestic demand was still pretty robust in our last GDP numbers. So for me, it's still good growth. The Atlanta Fed nowcast has next growth around 3.2%. So I don't see it as stagflationary as in low or negative growth, but we definitely have a sticky inflation side. So this is going to mean the Fed is very patient until they really get much more confidence. And they just haven't had it. OK, so given your outlook on rates and growth, what does this potentially mean for the US dollar going forward? Well, it's supported from this fact that rates and the US economy and the US dynamic is more exceptional than the rest of the world, right? I think we have greater confidence that you're going to see cuts in Europe. China is slow. It's been trying to reflate. There's some bumps there. It is a pretty strong part of the world. And for the time being, it's going to be resilient. It's going to be a positive. Ultimately, we're towards the end of the cycle. But it's been a tough one to call, so steady as you go there too. OK. And looking ahead, what will you be watching over the next few months that could potentially change your view on rates? I-- you know, I'm just going to pivot back to what I said earlier. It's labor market. I really want to see that-- some softening there. I want to see further confidence that wages are coming down that is consistent with the productivity and the growth levels of the economy. And that will give the Fed the confidence to start this sort of-- not a cutting cycle, but just a reduction in the tightness of monetary policy consistent with a disinflationary impulse. Scott, thanks very much for your time. Pleasure. Thanks, Anthony.

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