As Treasury yields continue to rise, now just shy of 2.34%, tracking the move higher in the USDJPY, or perhaps vice versa, which is approaching 113 once again, NY Fed head, and the second most important person at the Federal Reserve, made some comments this morning, which hardly groundbreaking, were notable for their warning against stimulus-oriented changes to the tax code which Dudley said would be "ill timed." He echoed a similar comment from another former Goldmanite, Dallas Fed's Kaplan, who said that stimulus-oriented tax reform "could harm the economy."
While Dudley said that a simpler, more efficient tax system would benefit the US, he said that tax reform has not been incorporate into his economic forecast, which in turn suggests that if Trump does succeed in passing tax reform in the next few months, the Fed will find itself even more behind the curve, forcing it to hike even more aggressively, sending risk assets into a tailspin. Hence the warning.
What is even more ironic, is that in the very same speech, Dudley said that the Fed is very interested in making "sure prosperity is shared" which is odd for two reasons: the Fed's own recent triennial survey showed that the only wealth creation has gone to the top 10%, and second, any attempts to create a stimulus for "everyone else" via tax-reform, is precisely what will crush the Fed's capital-markets driven wealth effect by sending inflation higher and breaking the current market goldilocksian "metastability."
The good news, according to Dudley, is that the economy is not "particularly vulnerable" to a recession now and "things are quite good right now." He also laid out the usual arguments about how rising wage inflation is just around the corner.
The bottom line: the Fed is hiking in December, and more in 2018, especially if Trump tax cuts pass - which as of this moment are not even part of the Fed's optimistic forecast - and which have the potential to send inflation spiking, further accelerating the Fed's future rate hikes and inverting the yield curve. Meanwhile, as Citi notes, "Between Trump's bipartisan deal on healthcare and McCain's endorsement of the budget resolution vote this Thursday/Friday, the market (at the moment) is feeling good enough about tax reform prospects."
Here are the Kaplan comments via Dow Jones:
- KAPLAN: ECONOMY IS AT OR CLOSE TO FULL EMPLOYMENT
- KAPLAN: TECH-ENABLED DISRUPTION BIG ISSUE FOR WORKFORCE
- KAPLAN: U.S. 'WAY BEHIND' ON WORKFORCE DEVELOPMENT
- KAPLAN: TECH CAUSING MORE JOB DISRUPTION NOW RELATIVE TO GLOBALIZATION
- KAPLAN: WARNS STIMULUS-ORIENTED TAX REFORM COULD HARM ECONOMY
- KAPLAN SAYS HE'S WARY OF PUSHING FED RATES UP TO 10-YR YIELDS
- DUDLEY: SIMPLER, MORE EFFICIENT TAX SYSTEM WOULD BENEFIT U.S.
- DUDLEY: NOT INCORPORATED TAX REFORM INTO HIS ECONOMIC FORECAST
- DUDLEY: ANY TAX OVERHAUL IS STILL WELL OFF IN FUTURE
- DUDLEY: STIMULUS-ORIENTED TAX CHANGES WOULD BE 'ILL TIMED'
- DUDLEY: BIGGEST UNCERTAINTIES FOR ECONOMY ARE WASHINGTON POLICY MAKING
- DUDLEY: ECONOMY NOT 'PARTICULARLY VULNERABLE' TO RECESSION NOW
- DUDLEY: FOR ECONOMY, 'THINGS ARE QUITE GOOD' RIGHT NOW
- DUDLEY: FED VERY INTERESTED IN MAKING SURE PROSPERITY IS SHARED
- DUDLEY: TIGHT LABOR MARKET GIVES INCENTIVE FOR WORKFORCE DEVELOPMENT
- DUDLEY: A LESS COMPLEX TAX SYSTEM WOULD BENEFIT ECONOMY
- DUDLEY: RUNNING ECONOMY AT FULL EMPLOYMENT WILL BOOST WAGES
- DUDLEY: 'WE ARE OPERATING AT A PRETTY TIGHT LABOR MARKET'
- DUDLEY: STILL BELIEVES MARKET BASED ECONOMY IS BEST WAY FORWARD
And the punchline:
- DUDLEY: INVESTORS AREN'T PAYING ENOUGH ATTENTION TO GOVERNMENT DEBT SERVICE