John Dessauer’s market review and update as of Wednesday May 10, 2023
There is one issue that really scares me. That is the need to raise the nation’s debt ceiling. Treasury Secretary Yellen says we will run out of borrowing ability by June first. The Republicans in the House have passed a bill that raises the debt ceiling by a whopping $1.5 trillion. The President and leading Senate Democrats have not responded. They don’t like the spending restrictions in the Republican bill.
Why do we need to raise the debt ceiling? Because the federal government under the Biden leadership is running deficits. And not modest deficits. Tax collections are running at record levels. Why can’t the Biden Administration balance the budget? In my opinion the Republicans are right: we have a spending problem that needs to be reformed. Offering a $1.5 trillion increase in the debt limit is astounding. I can remember past debt ceiling debates when a billion dollar increase was thought to be too much.
The debt ceiling issue scares me because even a short-term default would be nasty for the economy and the stock market. The Dow rose 546 points last Friday. Investors are assuming the debt ceiling will be raised before the end of this month. I hope the President and Democrats will soon start negotiating with the Republicans so the optimists will be right.
Meanwhile the inflation fight goes on. Last week the Federal Reserve raised interest rates for the tenth time, up 0.25%. The benchmark fed funds rate is now 5%-5.25%. That is up from near zero a year ago and the highest since August 2007.
After each meeting the Fed issues a statement. This time the language was different:
“In determining the extent to which additional policy firming may be appropriate to return inflation to 2 percent over time, the committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments.”
Some economists read that and concluded that the Fed was going to pause for a while on rate hikes. But Fed chair Powell quickly said: “A decision on a pause was not made today. We’re no longer saying that we anticipate. We’ll be driven by incoming data, meeting to meeting.”
Powell also said that the banking sector is “sound” and “conditions have broadly improved.” But he added that credit appears to be tightening in a way that is more severe than normal.
“If it weren’t for the bank crisis, the Fed would likely be intent on an additional rate hike or two. After Powell’s hawkish testimony before the Senate on March 7, markets were betting that the Fed’s key interest rate would reach a range of 5.5% to 5.75%.
But Powell said after the March 2 Fed meeting that tighter credit stemming from the bank crisis would essentially substitute for rate hikes, leaving monetary policy “less work to do,”
At the time, Powell said it was guesswork just how much the bank crisis would slow the economy. The latest batch of economic data still shows that inflation is running much too hot for the Fed and the job market is still far too tight.” (Investor’s Business Daily 5/3)
The U.S. economy added 253,000 new jobs in April. That was stronger than economists expected but jobs data for February and March were each revised downward by 149,000 jobs. If April is also revised downward by that much then the labor market will have cooled, probably enough to stop the upward inflation pressure from wages.
Even as it is, the April jobs number is well below the monthly average of 606,000 new jobs in 2021 and the 399,000 monthly average in 2022.
The labor market is key in the drive to achieve a soft landing, meaning no recession, just a labor market soft enough to allow inflation to settle down around 2%.
As far as banks are concerned, they have an earnings problem. They have lots of low interest loans on their books and now they have to compete with money market funds paying 4.5%-5%, to keep their deposits. The banks need new loans at higher interest rates. In my view that makes it difficult for banks to tighten credit. The burden of slowing the economy will likely remain job number one for the Fed. Following the recent Fed meeting the market odds of another rate hike in June went to zero. I think that is too optimistic. I think there will be another 0.25% rate hike next month. And that will keep investors on edge. We need more good news on inflation to encourage investors.
I will have the next market review and update for you one week from today on
Wednesday, May 17, 2023.
All the best,
© May 2023