Where Things Stand Now With Inflation and the Fed

Episode Summary

Executive Summary: The episode examines the December Fed meeting and a softer-than-expected CPI print, asking whether U.S. inflation is truly decelerating enough to allow a pause or soft landing. Guests Tim Dewey and John Turek argue the Fed is shifting from finding the terminal rate to deciding how long to stay restrictive, with wage growth, labor-market softening, and financial conditions central to the outlook.

Main Topics: Fed policy after the December meeting (Priority: 5/5): The guests interpret Powell’s press conference and the 50 bps hike as confirmation that the Fed is nearing the restrictive zone and is focused on holding rates there for an extended period. CPI slowdown and disinflation (Priority: 5/5): A cooler CPI report is treated as meaningful but not yet conclusive evidence that inflation is sustainably easing, especially given lingering services and wage pressures. Labor market, wages, and soft landing odds (Priority: 5/5): Discussion centers on whether unemployment can rise only modestly or whether history implies the Fed must tolerate a larger increase to bring inflation down. Restrictive policy and real rates (Priority: 4/5): The guests debate what 'restrictive' actually means, suggesting the Fed may be targeting a real rate around 160 bps, but emphasizing that this is data-dependent and dynamic. Financial conditions and the dollar (Priority: 4/5): John Turek argues the stronger dollar and tighter financial conditions have already done part of the Fed’s work, though recent easing in markets complicates the picture. Market pricing vs Fed guidance (Priority: 4/5): A recurring theme is the divergence between Fed officials who still signal more hikes and markets that are already pricing cuts, reflecting differing views on recession risk and disinflation. Global central bank divergence (Priority: 3/5): The conversation broadens to other central banks, especially New Zealand, Canada, and the UK, where rate sensitivity and mortgage structures may produce different policy outcomes than in the U.S.

Key Arguments: The Fed is moving from asking where the terminal rate is to how long it should stay there, implying the hiking cycle is nearing its end. 'Restrictive' policy is not a fixed level; it is the rate that creates sustained downward pressure on labor demand and wage growth. The CPI report suggests fewer inflationary pressures in the near term, but one or two reports are not enough to declare victory. Nominal wage growth around 5.5% remains inconsistent with confidence that inflation will settle at 2% without further labor-market cooling. History argues against a neat soft landing: the Fed generally cannot engineer only a small rise in unemployment. Financial conditions matter, but recent easing may be 'earned' if inflation data improves and labor-market data softens. The market will likely price cuts once it believes the Fed is near the end of hikes, regardless of official Fed rhetoric. Internationally, economies with more floating-rate mortgage exposure or higher private debt will feel tightening much more quickly than the U.S.

Data Points: Fed rate hike: 50 basis points - The Fed’s latest decision discussed in the episode Headline CPI: 7.1% year over year - The December inflation report was lower than expected Core CPI month-over-month: 0.2% - The core inflation print came in cooler than forecast Headline CPI month-over-month: 0.1% - Helped by the plunge in oil prices Current unemployment rate: 3.7% - The U.S. labor market remains very tight Fed SEP unemployment forecast: 4.6% - Projected peak unemployment in the Fed’s forecast for next year and the year after Nominal wage growth: 5.5% - Used as evidence that inflation may still be hard to get back to target Implied real rate (Fed funds vs core PCE projection): 160 basis points - John Turek’s estimate of how restrictive policy may be in 2023 and 2024 Next expected hike: 25 basis points in February - Tim Dewey’s base case for the next FOMC meeting Subsequent hikes in base case: March and May - Tim Dewey sees these as possible if inflation remains sticky RBNZ terminal rate view: Close to 6% - New Zealand’s central bank projected a much higher terminal rate Job growth threshold mentioned: Sub-100,000 per month - A sign Tim Dewey says would make further hikes harder to justify Unemployment rate peak forecast increase: 3.7% to 4.6% - Shows the Fed’s own expectation of a materially weaker labor market Oil price move mentioned: West Texas Intermediate around 77 vs 70 a week earlier - Referenced as part of the inflation and consumer-demand backdrop

Pivotal Quotes: "they are very much committed to this idea that they need to hold rates at a restrictive level for an extended period of time" — Tim Dewey: Summary of Powell’s press conference and the Fed’s policy stance "they are kind of transitioning from this where is terminal to how long to stay there stage" — John Turek: Characterization of the Fed’s shift in focus after the December meeting "History is not the Fed's favor here" — Tim Dewey: On whether the unemployment rate can rise only modestly and still achieve a soft landing

Implications: The Fed appears close to the end of hikes, but the real battle is how long to hold restrictive policy. Watch wages, quits, job openings, and services inflation; if they soften, markets may price cuts faster than the Fed wants.