Stagflation or Soft Landing? 

Pierre Wunsch, a member of the European Central Bank's (ECB) Governing Council and the Belgian central bank chief, spoke of the cognitive dissonance that always exists in markets. “We’re set for soft landing in the short term,” he said, adding: “We are entering some form of stagflation.” How can you get both? 

Conflicted on Inflation 

It is axiomatic that the market is always full of conflicting beliefs: that’s what makes the market tick. But Wunsch’s comments underscore the dichotomy within central banks and within many market participants – are they too tight whilst simultaneously not doing enough to bring down inflation? Maybe they are using the wrong tools? Maybe the frameworks are out of date? Maybe, just maybe, the inflationary paradigm has altered. Maybe the fiscal side needs to do less/more depending on your viewpoint. 

Too Early for Cuts? 

Wunsch also stressed that it’s too early to make predictions on when rates will fall, but indicated also that the bar for hiking rates again was high…Sentiments shared by GC colleague Makhlouf, who warned it’s way too early to discuss rate cuts. He said “there is huge uncertainty as to what lies ahead. A large part of monetary tightening has yet to be passed through to the financial system and to the economy; and while some risks are fading, new risks are emerging”. Other ECB policymakers voiced similar views that rates will remain high. 

Meanwhile over on Threadneedle St, Andrew Bailey was sharing a similar message. The Bank of England boss said it’s “ too early” to discuss rate cuts. All on pause and all on the Higher For Longer script. Only a couple of days ago his own chief economist, Huw Pill, said markets were about right to price in cuts in the middle of next year. Oops...but loose talk is par for the course.  

A Piece of String 

The question is of course how long is ‘longer’ and do they tolerate higher inflation? I continue to believe CBs will be forced to accept higher inflation, but that doesn’t mean they are about to cut rates and allow inflation to take off again. They are rightly afraid of loosening prematurely just as they get something of a grip on inflation.  

“The ‘last mile’ before we reach our inflation target may well be the hardest,” Bundesbank head Nagel said, echoing comments from, well, just about everyone in recent months, including the Bank for International Settlements. Lagarde and Powell are due to speak later   

Meanwhile... 

Crude oil fell again yesterday, China’s still in deflation territory this morning and stocks are mixed – FTSE down again with crude oil at its weakest since the summer, the DAX firming up a touch but off the intra-day week highs. US stocks rallied for an 8th straight day – the S&P 500 extending its longest win streak in two years. Oversold stocks running into what the market thinks is a Fed pivot creates strong momentum for buyers. Treasury yields close to the lows with the US 10yr at a little above 4.5%, the dollar firmer but well off yesterday’s highs.