Will This Time Be Different?

SGR Market Dashboard March 2021

Key Excerpts:

As the US Congress is in the process of passing additional fiscal stimulus to counter the negative effect of the pandemic and related US state lockdowns, the US equity market is experiencing jitters primarily as a result of the action in the bond market.  As can be seen in the attached chart, the US government bond yield curve has begun to steepen, with the 10 year Treasury note now touching 1.50%, up from 0.85% just three months ago.

The bond market appears to be beginning to pay attention to the massive increase in money in circulation as a result of deficit spending, as well as the Fed’s continued asset purchase program. This increase in money supply has been a result of a near dollar-for-dollar increase in the Fed’s balance sheet, which has swelled from around $4 trillion to around $7.5 trillion.

One would think that the warning signals coming out of the bond market would serve as a gut check for the Federal Reserve and its continued helicopter money policy, but it appears that at least the Chairman of the Fed, Jerome Powell, feels there’s nothing to see here.

We would love to have Chairman’s Powell confidence in dismissing the problem with M2’s growth, but with commodity prices also rising (crude is up from less than $43/barrel three months ago to almost $62 for example) forward expectations for inflation have also spiked dramatically, and now are pricing 2.5% inflation five to 10 years in the future, up from 0.5% a year ago.

We are stumped to accept that this time things will be different.  If the long end of the yield of the curve continues to “misbehave”, the consequences for the markets will not be pretty, and the Fed’s easy money will prove to no longer be the solution, but the problem.