Volcker, the markets and Maradona By Investing.com


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By Laura Sanchez

Investing.com – Frenetic day this Wednesday in the stock markets (, , ..- a few hours after the US Federal Reserve (Fed) communicates its and Jerome Powell, president of the organization, appears in .

And, at the moment, the opinions of experts about what we can find are increasing.

Stéphane Déo, head of market strategy at Ostrum, a group manager natixis (NYSE:) Investment Managers, exemplifies the dilemma facing the Fed, citing a comment by former Bank of England Governor Mervyn King and his theory between the relationship between Maradona’s soccer and the predictability of monetary policy ; the Fed could be forced to do an anti-Maradona to make up for its initial lack of credibility. In analyzing him, Ostrum’s chief strategist sees Powell as “facing” three rivals: Volcker, the markets and Maradona.

“The error of premature easing of monetary policy in the 1970s seems to be very much on the Fed’s mind. This seems reasonable to us, but it would also imply that the rate cuts expected by the market for next year are surely much higher. less likely than expected. This would also imply a steeper curve. Higher rates for longer”, explains Stéphane Déo.

Powell vs. Volker

“One of the pitfalls Powell seems to want to avoid is the sequence of the 1970s. Inflation picked up sharply, 12.3% in December 1974, and the Fed reacted to 13% in mid-1974. The result was a harsh recession in 1974-75 that reduced inflation to 5% just over a year later.The mistake was declaring victory and the Fed quickly lowered its benchmark rates to 5%.The subsequent recovery was accompanied by a spike in inflation. Once inflation was anchored, Volker’s horse remedies were necessary, a decade of very positive real rates, for inflation to finally come down,” says the Ostrum expert.

Powell against the market

“The story, in short, is one of the Fed being very aggressive this year but turning around in the middle of next year. This is not a prolonged tightening of monetary policy, but more of a ‘stop and go’ reminiscent of the 1970s. The graph also shows current expectations: if you take into account (a little) the idea that rates remain high, we are far from the Fed’s forward guidance”, says Déo .

Powell ‘vs’ Maradona

For Stéphane Déo, it is interesting to go back to Sir Mervyn King, the former Governor of the Bank of England. Sir Mervyn is known for his sense of humor. We owe him the quote: “There are three types of economists, those who know how to count and those who don’t”, or “a successful central banker is boring”. He also coined the Maradonian theory of monetary policy. It is about going back to Maradona’s goal against England in the World Cup: he crosses the entire field zigzagging in the English defense.

“What is really striking is that Maradona ran almost in a straight line. How can you beat five players running in a straight line? The answer is that the English defenders reacted to what they expected from Maradona; if Maradona moved to the left or right” said Sir Mervyn in 2005. The analogy with monetary policy is that if markets expect rate hikes when inflation rises, their inflation expectations stay the same and so the central bank does not need to raise rates. types. The trajectory of monetary policy is as linear as that of Maradona,” explains this analyst.

“In other words, the more credible the central bank is, the less need it has to react to changes in inflation. That’s the Fed’s dilemma right now. With markets that don’t think they’re going to keep rates high on next year, the Fed may be forced to do even more (an anti-Maradona) to make up for the credibility deficit. Hence the importance of the current talk. If effective, long-term rates should be higher than they are now, which, paradoxically, would be part of the Fed’s job and, therefore, would limit its need to raise rates (Fed Funds)”, he adds.

conclusion

“The error of premature easing of monetary policy in the 1970s seems to be very much on the Fed’s mind. This seems reasonable to us, but it would also imply that the rate cuts expected by the market for next year are surely much higher. less likely than expected. This would also imply a steeper curve. Higher rates for longer”, concludes Stéphane Déo.

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