Jerome Powell recently spoke about the economy and inflation. He mentioned that the markets are facing tough conditions but also highlighted the advantages of the dollar as a reserve currency. Powell acknowledged the ups and downs of the USD and recognized that the effects of tariffs on inflation might not match expectations. The bond market seems to be functioning well, but Powell is waiting to see how inflation trends develop. He suggested that tariffs might cause a one-time rise in inflation and warned that if inflation predictions are wrong, there could be long-term consequences. Although stagflation is not expected right now, if it were to happen, it could complicate the Federal Reserve’s situation. Powell was cautious in giving future guidance, emphasizing the need to be careful given the uncertainty. He pointed out that the economy is growing and inflation is stable, while he monitors the labor market closely. Despite his comments, the market’s reaction has been minimal, with expectations of a 60.6 basis points easing by the end of the year. The ideas we’ve discussed are clear, but some details are easy to overlook. The chairman’s words reflect a key challenge for monetary policymakers — while some data are stabilizing, others remain uncertain. Inflation is not behaving erratically, but it is also not returning to desired levels quickly. Market participants should note that calling inflation “stable” does not mean that they are satisfied; it indicates a wish to observe more before taking action. His comments on tariffs suggest the risks of underestimating temporary price increases. If these are mistakenly viewed as long-term trends, policy responses could be too strong or delayed. Understanding this difference is vital. A one-time spike in prices from tariffs does not warrant the same response as persistent inflation expectations shifting across the economy. This likely explains why we are adopting a cautious approach now. As businesses adjust to new price levels, initial spikes rarely lead to uncontrollable inflation unless confidence begins to falter. Regarding the dollar, Powell acknowledged its broader role, but he didn’t dwell on it. His acceptance of currency fluctuations shows some tolerance for necessary readjustments. For traders, this suggests fewer surprises when planning medium-term moves. Changes in currency values often affect related rate markets, although not always in a direct way. When exchange rates affect imported goods and overall inflation, decision-making becomes more complex, highlighting current hesitations. In terms of the US sovereign debt market, Powell’s reassurance seems aimed at calming nerves for now. However, just because the market is functioning well doesn’t mean there will be no bumps ahead if long-term yields remain stubborn. Traders will likely want to closely monitor bidding activity before upcoming bond issues. Key metrics like bid-to-cover ratios and indirect demand will be crucial. If confidence in rate policies starts to slip, this may first show up subtly through higher term premiums, rather than immediately impacting stock markets. Although Powell dismissed stagflation for now, mentioning it is significant and not done lightly. Such a scenario presents challenges since it limits the options for rate setters. Bringing it up indicates awareness of possible risks, even if they seem far off. For our strategies, it serves as a reminder to reassess hedges in inflation-linked instruments and remain cautious about potential economic slowdowns. The absence of forward guidance indicates a change from past communication styles. Instead of clearly outlining future steps, the central bank appears more focused on data than on shaping expectations. This likely means less clarity about policy intentions moving forward. We will need to pay closer attention to inflation reports and labor market data; waiting for policy signals is no longer sufficient. With swaps markets currently suggesting over 60 basis points in cuts by December, it’s important to explore whether these views stem from healthy skepticism or a repeat of earlier optimism cycles. The macro data does not decisively push us in either direction yet. However, the lack of market reaction to Powell’s cautious tone suggests traders may doubt further cuts or think other tools will be used first. We continue to watch for signs of stress in short-term funding, as this often precedes reactive measures. While nothing is broken, nothing is fully resolved either. The upcoming weekly data — especially on core inflation and jobless claims — will be crucial. It’s wise to stay flexible, limit duration exposure, and account for near-term uncertainty in positioning.

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