The Week Ahead – Long and Variable Lags are Here and Now

Welcome to “The Week Ahead” where we take a moment to provide our thoughts on what we can expect in markets and the economy during the upcoming week.

The ongoing volatility and uncertainty in the banking sector continues, making the current situation very fluid. Indeed, it has now become international as Credit Suisse was just bailed out and is merging with UBS.  

Wednesday is the much-anticipated Federal Reserve Decision Day, followed up with a conference by Federal Reserve Chairman, Jay Powell. One prominent economist, Torsten Slok of Apollo, believes that the crisis may have a similar cooling effect on financial conditions as if the Federal Reserve had hiked rates another 1.5%. If that is the case, then the Fed should immediately go on hold. Despite the ongoing crisis, the Fed is expected to raise rates another quarter of a percent. However, the market is clearly betting that the path after Wednesday will be rate cuts. Seems like just yesterday that many investment pundits were raising their estimates on the terminal Fed Funds rate to the point that 6% seemed reasonable. Everything has changed since Silicon Valley Bank became insolvent. As of this writing, the consensus estimate for the Federal Reserve overnight rate has come all the way down to 4%. It will be highly unusual for the Fed to raise in the midst of a crisis, but not raising rates could create another type of crisis - one of confidence. If the Fed were to change course too quickly, that could spark fears the Fed knows the situation is more dire sending markets into panic. Our best guess: 25 basis point increase, followed by a dovish tone from Jay Powell.

The great economist, Milton Friedman was quoted as saying rate hikes by the Federal Reserve have “long and variable lags”. This means it takes about 12 months for the effects of higher interest rates to affect the economy. With the first-rate hike starting last March, it’s uncanny how accurate this turned out to be.

Data Deck for March 20 – March 24: