Jackson Hole Preview: What Signal Will the Fed Send?

Jerome Powell and his central banker colleagues are once again gathering in Jackson Hole, Wyoming on Aug. 24-26 to discuss the health of the economy and the monetary policy, Powell's speech is set to begin at 10:05 a.m. Eastern on Friday.

Why it matters? Jackson Hole conferences have been seen as key occasion for Fed chair to announce policy changes. From 2007 to 2009, Bernanke's speeches all came at crucial points during the financial crisis, while his 2010 to 2012 speeches prefigured new rounds of Fed stimulus.

The 2023 Jackson Hole Economic Policy Symposium is being held at a time when most global central banks are near the final stages of rates hiking and taming inflation. The next challenge for the developed nations could be to maintain growth and not let their economy slide into a recession.

Data released after the July FOMC meeting showed the economy is still resilient.

Q2 GDP leaped well above consensus: US Q2 advance GDP increased by 2.4% vs +1.8% expected.

July retail sales, excluding autos, climbed above expectations: US July retail sales increased by 0.7% versus +0.4% expected.

However, the University of Michigan consumer sentiment for the US edged lower to 71.2 in August of 2023 from 71.6 in July, showing it might take time to restore the purchasing power of U.S. residents after experiencing high inflation.

The theme for the 2023 conference is "Structural Shifts in the Global Economy." In recent years we have seen a partial reversal of the globalization movement. Following the pandemic, it became much more accepted on a bipartisan basis that manufacturing more in the US has become necessary. This has resulted in government policies such as the Chips and Science Act to incentivize production at home. Construction spending on manufacturing facilities has already more than doubled recently.

As we switch toward optimizing for supply security rather than minimum cost, the low interest rates of 2009-2021 may not be enough to keep inflation under control. The initial build-out of new factories also is inflationary because of the increased demand for labor and materials.

The US central bank just published minutes of its July policy meeting last week, and the record showed that, at the time, most Fed officials saw significant upside risk to inflation. On the other hand, two favored holding rates steady, marking the first real hint of disagreement over the way forward that we've seen in quite some time.

In terms of the Jackson Hole conference, what do economists expect Powell to say?

l Goldman Sachs is not expecting a strong signal from Federal Reserve Chair Powell this week, saying any signals will most likely be held back until after the July PCE inflation and the nonfarm payrolls report that follow next week. The analyst Lexi Cantor said,

l Bloomberg's analyst Anna Wong noted in their preview,

l Bank of America, on the other hand, expects him to push back against rate cut expectations. The analyst Aditya Bhave said the tone of Powell's speech "could be less balanced at Jackson Hole given the robust data flow since the July FOMC meeting." The latest report pointed to:

There is heightened uncertainty around the estimates of post-pandemic monetary policy restrictiveness. Chicago Fed National Financial Conditions Index was -0.385 from the latest update last week. It means the financial conditions are supportive for economic growth, but considering the positive readings in 1970s and 1980s, the negative numbers, indicating “loosing conditions”, might not be restrictive enough to contain inflation.

Economists also use r*(or R-star) to measure to the tightness of the monetary policy. R-star is the real neutral rate of interest that equilibrates the economy in the long run. The Dallas Fed's research estimated long-run R-star at around 0.70%. However, if the neutral rate of interest is higher than previously thought and close to the current fed funds target range of 5.25-5.50%, then it helps explain why the economy is holding up far better than most analysts had expected. Calculations by the Dallas Fed show that real interest rates are now approaching their peak, though not yet there.

The Fed now does so much in advance to guide policy moves ahead of time that scheduled events have little power to change the trajectory of the market. Take 2022 as an example. The stock market largely priced in and bottomed in October last year.

Market expectations of corporate profits this year, as measured by the composite S&P 500 EPS forecast, also appear to have bottomed in June and are now being revised upward.

However, the stock market is hard to predict because of competing influences. Unlike last year, earnings expectations in 2023 are on their way up, and the prospect of a recession is being pushed later. Offsetting this beneficial trend, higher interest rates mean that future earnings are discounted to a lower present value. This impacts growth stocks the most because a greater proportion of their earnings are in future years, and recent market performance reflects this. Looking to the future, it is likely that expectations of rising profits and rising yields will still be a constant contradiction in the stock market for some time.