In a short speech and Q&A at the Chicago Booth School of Business today, Jerome Powell provided the next-to-last word (Adriana Kugler, Governor, also gave a speech in Portugal just after this) we will hear from the Fed until the upcoming FOMC meeting, a week and a half from now. In it, Powell refrained from leaning into anything dovish that weaker economic data and the Beige Book might have suggested. Bolstered by a strong service-sector ISM on Wednesday and a mostly steady non-farm payrolls report today, Powell was neutral. The Lantern Daily Economic Index (LDEI) is a good representation of what gives Powell the ability to sound this way. See callout in chart below.

Because the LDEI correlates well to nominal GDP, it implies where GDP is running on an instantaneous basis. This regression suggests nominal growth is running at 5.5% and real GDP is running at 3.1% (using the latest deflator), so there isn’t an emergency yet.

While Powell didn’t lean into anything dovish, he repeated what other colleagues suggested this week, that as long as long-term inflation expectations remain low, higher near-term inflation/expectations can be “looked through.” Longer term inflation expectations as represented by the 5-year, 5-year forward inflation swap have fallen dramatically since Trump re-iterated his desire to enact North-American tariffs on February 20th (see chart below.)

A telling exchange about tariffs and Powell’s desire to keep paused “for right now” is transcribed below:

Interviewer Anil Kashyap: Ok, the elephant in the room. Economists normally assume that a tariff is passed into domestic prices and as the Secretary of Treasury said yesterday, that would change the level of prices once, but wouldn’t mean anything for inflation a year later. If we are looking at what happens over the next year, how would we know if the conventional view is not correct and that it is leaked into something more troubling?

Jerome Powell: So, I think that…start with the general…the general thought is that if there is a spike in prices that is a one-time thing that is going to go through the economy, that it is not appropriate to react to it because our policy, by design, will reduce employment and activity and it would not have really needed to be done. So, you look through those things if you can. So, if you put that in the context of tariffs…if you look at where forecasts are, if you look at the blue-chip, everybody is forecasting some inflation effect from tariffs. So it is very likely that if tariffs are imposed…let’s remember that we really don’t know what’s happening yet. We are at a stage where we are very uncertain about what will be tariffed, for how long, at what level. We’re going to have to wait to see all of that. But the likelihood is that some of that will find its way…you know, it will hit the exporters, the importers, the retailers, and to some extent, the consumers and we’ll see what that is.

In a simple case where we know that is a one-time thing, the textbook would say look through it, but the I think the situation…you would want to also be sure of a couple things. One just is that if it turns into a series of things, and it is more than that, and if the increases are larger, that would matter. What really would matter is what is happening with longer-term inflation expectations and how persistent are the inflationary effects. You want to look at all of those things. And you want to remember the current context which is we came off a very high inflation and we haven’t returned to 2% on a sustainable basis, so you’ve got to put all that in the mix as you make this decision.

I would point people back to 2019, when we had the Tax Cuts and Jobs Act, we had lower immigration, and we had regulatory policy under President Trump in the first regime and we wound up cutting three times because growth weakened so much. So there are many effects of tariffs. As I pointed out, it is really the effect of all of these policies that matter for our policy, it is not simply what’s happening with tariffs, it is happening with growth and all the other things as a result of these broad changes in economic policy, not just tariffs.

Interviewer Anil Kashyap: Ok, just to put a point on this…I think I know what you are going to say but the usual rule that economists hold that when uncertainty is high, we’re gradualist and I’m wondering whether you view that as the right benchmark or anchor to think about.

Jerome Powell: I view it as the right benchmark or anchor for right now and that’s because the costs of being cautious are very, very low. The economy is fine, it doesn’t need us to do anything really, and so we can wait and we should wait. I think there are cases where uncertainty is high where that would not be the case, where the costs of going slow might be high and those would be for example, if inflation expectations were clearly under pressure or if you are at the beginning of the pandemic and uncertainty is unquestionably elevated, but you nonetheless act very aggressively because of the costs, the potential costs of not doing so.

Another way to frame this is that economic data, the Fed’s narrative, and rates are now aligned. The Fed doesn’t need to push one way or the other. What will matter for yields is how economic data evolves from here. I expect it to continue broadly weakening because of the trade war, but also just because economic data tends to come in waves. Economic data began to weaken in the January observation period; before the Trump administration.