The Fed sees bond yields and inflation expectations rising as a possible win

(Reuters) – A recent rise in US bond yields and market inflation expectations have bolstered Federal Reserve officials’ hopes that the central bank’s new monetary policy approach is consolidating and could strengthen if a Democratic-led Congress deploys more spending.

“I am encouraged to see the increase in market indicators of inflation expectations. … That’s what we’re trying to support, ”Richmond Federal President Thomas Barkin said Thursday in an interview with Reuters.

Barkin said he felt the recent rise in Treasury bond interest rates was also part of a “reflation trade,” a signal that investors were taking into account future price hikes in their rate-demanding decisions. higher interest rates, rather than representing a worrying tightening of financial finances. conditions.

“The ingredients for higher inflation are in place,” the Fed chairman said. Louis, James Bullard, in separate comments to reporters. “You have a very strong fiscal policy in place and there may be more to come,” with Democrats about to control the White House, as well as the U.S. Senate and House of Representatives.

“You have a Fed that … wants to temporarily have inflation above target. Your economy is booming at the end of the pandemic,” once the impact of new coronavirus vaccines is noticed. said Bullard.

Treasury yields at the 10-year benchmark rose above 1.07% on Thursday and reached their highest level since March. The inflation expectation rate at 5 years in sight reached a two-year high of 2.05%.

“INCREDIBLY UNCONFESSING”

After nearly two years of study, the Fed changed its approach to monetary policy in August to allow for higher inflation, hoping to reach its 2% target on average, leaving prices deviate for a time to offset the years when inflation had been weak.

This would also allow, in theory, a lower unemployment rate, as the central bank would try to keep the kind of “hot” economy leading to rising prices.

Massive uncertainty about the economy and the course of the pandemic late last summer has given way to what Barkin said was more “clarity” about the situation – with the distribution of two coronavirus vaccines , with tax buffers to help many American households, and consumers “not far away” from the time when “they will participate in the economy with much more confidence.”

The pace of vaccine distribution will play an important role when this happens, and some policymakers will express dismay at the effort made so far.

Philadelphia Fed Chairman Patrick Harker called the first U.S. vaccination figures “incredibly disappointing,” with fewer than 5 million inoculated to date.

But the events of recent weeks seem to have changed the market’s bets on the future, as inflation-linked securities transactions imply that investors expect higher inflation and accept that the Fed will not be prevented.

“We’re looking at a long period in which the fed funds rate will basically stay at zero,” Harker said, referring to the central bank’s overnight interest rate. He added that he saw no sign that “inflation will go out of control.”

In fact, Chicago Fed Chairman Charles Evans expressed more skepticism about upcoming inflation, even with the additional government stimulus that could be on its way to helping combat the economic consequences of the pandemic and the recession it caused.

He told a group of bankers on Thursday that the boost in added tax spending to inflation is not “as strong as I would like.” He said he believed inflation would not reach 2% by 2023 and that it would not be irrational for the Fed to wait until mid-2024 before raising short-term rates from their current levels of zero.

San Francisco Fed Chair Mary Daly, in a speech presented Thursday by the Manhattan Institute’s Shadow Open Market Committee, said she believes a stronger labor market will eventually lead to higher inflation, although it is likely that the upward push for prices in a tight labor market is weaker than in the past, making a sudden rebound unlikely.

This means, he suggested, that the Fed may allow the labor market to strengthen more than it could have in the past.

At the same time, Daly said she was reassured by the recovery in inflation expectations, which showed that market participants, households and businesses are beginning to believe that the Fed will meet its goal of beating inflation. of 2%.