Powell described the labor market as “very tight,” though the unemployment rate rose in May to 3.7%. “There are some signs that supply and demand in the labor market are coming into better balance,” he said.
Powell cited the Fed’s characterization in its semi-annual report to Congress released Friday of tighter US credit conditions following bank failures in March.
“The economy is facing headwinds from tighter credit conditions for households and businesses, which are likely to weigh on economic activity, hiring, and inflation,” he said. “The extent of these effects remains uncertain.”
Veteran market observers will remember the taper tantrum in 2013. Yields surged when the Fed announced they would begin gradually reducing their purchases of Treasuries. The current market condition is one where the pace of quantitative tightening remains on track but the Fed is tapering their interest rate hikes.
The chart of the Fed Funds Rate clearly highlights how the pace of increases is moderating. The pause at the June meeting is part of that. It suggests there will be additional hikes, but potentially spaced out with lengthier increments between hikes. Loss of momentum is potentially a type-2 topping characteristic and suggest cuts will take place in due course. The long and variable lag from tightening policy does eventually catch up.
The S&P500 is unwinding a short-term overbought condition and potential for a reversion towards the trend mean remains the base case.