Federal Reserve Monetary Policy Report Outlines Risks to Inflation, Liquidity and Employment

The Federal Reserve released its twice–yearly monetary policy report with the focus on the Banks response to sustained inflationary pressures and a strong labor market, the FOMC has been adjusting its policies and communications since last fall. Financial conditions have tightened significantly this year. The expected path of the federal funds rate over the next few years shifted up substantially.

Federal Reserve Semi-Annual Monetary Policy Report June 2022

Economy

  • Recent indicators suggest that private fixed investment may be moderating but consumer spending remains strong
  • Real GDP appears on track to rise moderately in the second quarter

Liquidity and Risk

  • Further risks to global supply chains abound
  • Broad funding markets proved resilient to geopolitical tensions.
  • Leverage in the financial sector appears moderate and little changed this year.
  • Vulnerabilities from nonfinancial leverage are moderate.
  • Recent market strains for stable coins and other digital assets show structural fragilities in that rapidly growing sector.
  • With direct exposures of US financial institutions to Russia and Ukraine being small, financial spillovers have been limited to date.”
  • High inflation, supply chain disruptions, and the ongoing geopolitical tensions remain substantial sources of uncertainty with the potential to further stress the financial system.

Inflation

  • Our commitment to restoring price stability is unconditional
  • Some measures of wage growth appear to have moderated
  • The PCE price index for energy increased 30 percent over the 12 months ending in April about the same pace as over the 12 months ending in December.
  • Large increases in crude oil and natural gas commodity prices have boosted consumer prices for gasoline and natural gas.
  • Grocery prices increased at a very rapid pace of 10 percent over the 12 months ending in April, more than 4 percentage points faster than over the 12 months ending in December and the highest reading since 1981 (figure 2).
  • Food commodity prices (such as wheat and corn), which had already increased last year, have risen further since Russia’s invasion of Ukraine.
  • At the same time, high fuel costs, supply chain bottlenecks, and high wage growth have also pushed up processing, packaging, and transportation costs for food.

Employment

  • We are strongly committed to restoring price stability, necessary for sustaining a strong labor market.
  • Rapid growth of labor costs is putting upward pressure on the prices of all labor-intensive services.
  • About one-half of decline in labor force participation rate since pandemic began is due to baby-boom generation reaching retirement age.
  • Some possible signs of modest easing of labor market tightness have recently appeared.
  • If gap between wage growth and productivity growth remains comparably wide in the future, there will be significant upward pressure on firms’ labor costs.

Much the same from the U.S. central bank said in its Financial Stability Report despite an obvious worsening environment. Perhaps not to raise more fear?

“According to some measures, market liquidity has declined since late 2021 in the markets for recently-issued U.S. cash Treasury securities and for equity index futures,” the U.S. central bank said in its Financial Stability Report.

“While the recent deterioration in liquidity has not been as extreme as in some past episodes, the risk of a sudden significant deterioration appears higher than normal,” the report said. “In addition, since the Russian invasion of Ukraine, liquidity has been somewhat strained at times in oil futures markets, while markets for some other affected commodities have been subject to notable dysfunction.”

In a statement accompanying the release of the report, Fed Governor Lael Brainard said the war “has sparked large price movements and margin calls in commodities market and highlighted a potential channel through which large financial institutions could be exposed to contagion.”

“From a financial stability perspective, since most participants access commodities futures markets through a large bank or broker-dealer that is a member of the relevant clearing house, these clearing members are exposed to risk when clients face unusually elevated margin calls,” Brainard said. “The Federal Reserve is working with domestic and international regulators to better understand the exposures of commodity market participants and their linkages with the core financial system.”

Source: Federal Reserve Monetary Policy Report

From the TradersCommunity News Desk