Considering the macro situation there is a big debate going on today on what macro path forward is, specifically around the central bank policy rate. There is the question of when the Fed would pivot, how much of a pivot would it be, and in fact what does a pivot mean?

The situation has driven the market and its participants nuts. If in a normal macro situation (if something called normal exists), market tends to behave somewhat like bipolar, in the current scenario it has gone berserk. Some days it acts as though it believes rates are going too high, some days recession is imminent, some days everything is fine, economy is doing great and yet on others, Fed is just about to lower rates.

So, being a market participant and an observer for a period of time, I’m thinking if the debate is on, why not put in my two cents. After all the beauty of the markets in a free-market economy is that it provides the opportunity for all participants to bring forward their perspectives. Thus here it goes…

Before I start I want to be very clear that for the rest of the post by pivoting I mean cutting rates. I’ll refer to pause as pause. And I’ll phrase the whole debate with the following question: Will the Fed pause first before pivoting?

My bet is Fed will prefer to pause before pivoting. But, if the economic situation gets really bad, they may need to pivot without pausing - this though is not the optimal outcome that the Fed is looking for. It will represent a failure of a kind. This will however be a whole lot better than getting into a situation where Fed pauses but does not pivot (in time) and thus resulting in a major economic crisis. All of this is based on two points 1) historical pattern 2) optics.

Historical pattern dictates Fed to take a certain path to get from point A to point B. Ability to determine the target B is considered ideal. Not being able to follow this pattern would show the Fed in a bad light. Current Fed has somewhat deviated from this patter by being data-dependent. But, it is one thing to be data dependent in adjusting the pace of rate hikes, it is completely a different thing to be adjusting direction at every turn. That would give the optics of being at loss of control. There is an exception - if that change in direction is in pursuit of some economic KPI - that was the case in early 1980s, when Volker got a second chance at taming inflation. However, that exception is going to be somewhat difficult to be granted to Powell & Co - the reason being there is a difference between the 1980’s inflation chase and today’s inflation chase. This is not commonly discussed, but I believe it’s an important distinction - In 1980, no body attributed Volker to be the cause of the inflation - there was a clean cut between the previous administrations and Volker. But, unfortunately today’s Fed stands with the burden of also being the party that let inflation genie out of the bottle. The optics on this is going to weigh in - and I feel bad for Powell. Volker got benefit of the doubt - because he came in without any strikes. Powell already has one strike on his cards.

So, from my perspective - below are the options for the path that the Fed would like to take (listed in preferential order):

1. Raise -> Pause (for a very very long time)

   1. I do not believe this is a very realistic scenario - considering the interest rate regime we have come from. Structural damages would start to appear within the range of 1 to 2 years.

2. Raise -> Pause (6 months or more) -> Lower to adjust -> Pause

   1. I feel this is the best realistic scenario for the Fed to get out without losing face, assuming pivot is not because of a hard landing.

3. Raise -> Lower to adjust -> Pause

   1. A scenario that has a bumpy landing baked in.

4. Raise -> Lower to de-risk

   1. A real bad scenario that will see the Fed making a mistake a both ends - analogy: Fed overshoots the runway during both takeoff and landing.

There is one scenario that I have not included here - this is the path that the Fed would never want to take - Raise -> Lower -> Raise -> Lower -> … in rapid succession.