Buttonwood

Why private-credit markets are due a growth spurt

With dealmaking at a frantic pace, speed matters


There are many ays to tell the story of the turnaround in America’s capital markets since last spring. 

The focus has been on public markets, notably the wondrous surge in share prices. 

Yet the change in fortunes of private equity (pe) is perhaps more remarkable. 

A year ago Blackstone, a pe giant, reported a first-quarter loss of more than $1bn. 

A reckoning seemed overdue. 

Widespread defaults on overborrowed pe-owned businesses were expected. 

A year on, Blackstone has reported record profits of $1.75bn. 

So much for comeuppance.

Its rude health owes a lot to the speed, as much as the extent, of recovery in asset prices. 

Buyout shops barely had time to mark down their portfolio companies in line with a falling stockmarket before share prices suddenly recovered. 

Dealmaking has picked up to a frantic pace. 

Competition from corporate buyers means that buyout firms must move quickly. 

Where they have an edge is in raising debt. 

In fact the premium on speed in pe is why you should expect to see a sharp pickup in a related corner of capital markets—private credit.

Private credit mainly serves mid-sized companies that are acquiring something or undergoing change of some kind—buying out a family member’s stake; refinancing their bank debts; and so on. 

More often than not, this change will be carried out under the auspices of a pe sponsor and require a lot of borrowing. 

Banks used to finance this sort of thing, but not anymore. 

To access the public markets, a company must meet the demands of regulators. 

It must be biggish and profitable, with a history of pristine financial statements. 

A lot of companies do not tick the boxes.

Private credit has elements of both bank and capital-market finance. 

It is like a bank loan in that it is tailored to the borrower and does not usually change hands in markets. 

It is like a publicly traded bond in that the end-investors are pension and insurance funds looking for regular fixed income. 

The border between private and public credit is blurry. 

The defining factor is how widely a loan is distributed. 

The highest-profile part of private credit is the market for leveraged loans, which are fixed-income instruments sold to syndicates of investors. 

The more widely a loan is distributed the more liquid it is. 

A broadly syndicated loan might be sold to 100 or more lenders. 

By contrast, the number of parties to a truly private deal is often in the single digits.

The bigger pe firms have private-credit arms. 

The set of skills required is similar, says Mike Arougheti of Ares, a private-asset manager. 

Both types of investor need to make sound judgments about the growth of cashflows, and the hazards around it, for companies that are not widely researched. 

There are obvious synergies. 

Say a pe firm has carried out due diligence on a buyout target only to lose out to a bid from a rival. 

Having done the homework, the losing firm might call up the winner and offer to buy the debt.

This nexus with pe is one reason to expect a spurt in private credit. 

For pe sponsors, the attraction of private credit is speed. 

There are no lengthy discussions with regulators, rating agencies or underwriting banks. 

And speed matters more than ever. 

Buyout funds have $1trn or more of “dry powder”, capital that has been raised but not yet deployed. 

“Equity markets have rallied, so corporate buyers are competitive,” say Mark Attanasio and Jean-Marc Chapus of Crescent Capital, a private-credit firm. 

The upshot is that every potential target has many bidders.

The other reason to expect growth in private credit is its appeal to investors. 

Yields are higher than on widely traded corporate bonds. 

Moreover, the interest charged on private loans is usually tied to short-term interest rates. 

That protects investors from sudden changes in Federal Reserve policy, which fixed-rate corporate bonds are vulnerable to. 

Private-credit specialists typically demand greater control over the terms of lending. 

That way they can mitigate the risks of a borrower getting into trouble. 

They are also better placed to recover more of their money in the event of a default. 

In a lightly syndicated deal, there are fewer people to indulge in wasteful squabbling over the remains.

Everything is happening more quickly in capital markets. 

Even though private markets do not trade minute-by-minute, there is little time to lose. 

It seems only yesterday that regulators were fretting publicly about the unchecked growth of opaque private-credit markets. 

Things then went quiet.

But the noise levels may go up again soon.

Biden to Propose $6 Trillion Budget to Boost Middle Class and Infrastructure

The president’s plans to invest in infrastructure, education, health care and more would push federal spending to its highest sustained levels since World War II.

By Jim Tankersley

President Biden’s first budget request calls for the federal government to spend $6 trillion in the 2022 fiscal year.Credit...Doug Mills/The New York Times


WASHINGTON — President Biden will propose a $6 trillion budget on Friday that would take the United States to its highest sustained levels of federal spending since World War II, while running deficits above $1.3 trillion throughout the next decade.

Documents obtained by The New York Times show that Mr. Biden’s first budget request as president calls for the federal government to spend $6 trillion in the 2022 fiscal year, and for total spending to rise to $8.2 trillion by 2031. 

The growth is driven by Mr. Biden’s two-part agenda to upgrade the nation’s infrastructure and substantially expand the social safety net, contained in his American Jobs Plan and American Families Plan, along with other planned increases in discretionary spending.

The proposal shows the sweep of Mr. Biden’s ambitions to wield government power to help more Americans attain the comforts of a middle-class life and to lift U.S. industry to better compete globally in an economy the administration believes will be dominated by a race to reduce energy emissions and combat climate change.

Mr. Biden’s plan to fund his agenda by raising taxes on corporations and high earners would begin to shrink budget deficits in the 2030s. 

Administration officials have said the jobs and families plans would be fully offset by tax increases over the course of 15 years, which the budget request backs up.

In the meantime, the United States would run significant deficits as it borrows money to finance his plans. 

Under Mr. Biden’s proposal, the federal budget deficit would hit $1.8 trillion in 2022, even as the economy rebounds from the pandemic recession to grow at what the administration predicts would be its fastest annual pace since the early 1980s. 

It would recede slightly in the following years before growing again to nearly $1.6 trillion by 2031.

Total debt held by the public would more than exceed the annual value of economic output, rising to 117 percent of the size of the economy in 2031. 

By 2024, debt as a share of the economy would rise to its highest level in American history, eclipsing its World War II-era record.

The levels of taxation and spending in Mr. Biden’s plans would expand the federal fiscal footprint to levels rarely seen in the postwar era, to fund investments that his administration says are crucial to keeping America competitive. 

That includes money for roads, water pipes, broadband internet, electric vehicle charging stations and advanced manufacturing research. 

It also envisions funding for affordable child care, universal prekindergarten, a national paid leave program and a host of other initiatives. 

Spending on national defense would also grow, though it would decline as a share of the economy.

The documents suggest Mr. Biden will not propose major additional policies in the budget, or that his budget will flesh out plans that the administration has thus far declined to detail. 

For example, Mr. Biden pledged to overhaul and upgrade the nation’s unemployment insurance program as part of the American Families Plan, but such efforts are not included in his budget.

The budget is simply a request to Congress, which must approve federal spending. 

But with Democrats in control both chambers of Congress, Mr. Biden faces some of the best odds of any president in recent history in having much of his agenda approved, particularly if he can reach agreement with lawmakers on parts of his infrastructure agenda.

If Mr. Biden’s plans were enacted, the government would spend what amounts to nearly a quarter of the nation’s total economic output every year over the course of the next decade. 

It would collect tax revenues equal to just under one fifth of the total economy.

In each year of Mr. Biden’s budget, the government would spend more as a share of the economy than all but two years since World War II: 2020 and 2021, which were marked by trillions of dollars in federal spending to help people and businesses endure the pandemic-induced recession. 

By 2028, when Mr. Biden could be finishing a second term in office, the government would be collecting more tax revenue as a share of the economy than almost any point in modern statistical history; the only other comparable period was the end of President Bill Clinton’s second term, when the economy was roaring and the budget was in surplus.

The documents also show the conservative approach Mr. Biden’s economic team is taking with regard to projecting the economy’s growth, as compared to his predecessor’s. 

Mr. Biden’s aides predict that even if his full agenda were enacted, the economy would grow at just under 2 percent per year for most of the decade, after accounting for inflation. 

That rate is similar to the historically sluggish pace of growth that the nation has averaged over the past 20 years. 

Unemployment would fall to 4.1 percent by next year — from 6.1 percent today — and remain below 4 percent in the years thereafter.

Former President Donald J. Trump consistently submitted budget proposals that predicted his policies would push the economy to a sustained annual rate of nearly 3 percent for a full decade. 

In his four years in office, annual growth only reached that rate once. 

The final budget submitted by President Barack Obama, when Mr. Biden was vice president, predicted annual growth of about 2.3 percent on average over the span of a decade.

The Biden forecasts continue to show his administration has little fear of rapid inflation breaking out across the economy, despite recent data showing a quick jump in prices as the economy reopens after a year of suppressed activity amid the pandemic. 

Under the Biden team’s projections, consumer prices never rise faster than 2.3 percent per year, and the Federal Reserve only gradually raises interest rates from their current rock-bottom levels in the coming years.

Mr. Biden has pitched the idea that now is the time, with interest rates low and the nation still rebuilding from recession, to make large up-front investments that will be paid for over a longer time horizon. 

His budget shows net real interest costs for the federal government remaining below historical averages for the course of the decade. 

Interest rates are controlled by the Federal Reserve, which is independent of the White House.

Even if interest rates stay low, payments on the national debt would consume an increased share of the federal budget. 

Net interest payments would double, as a share of the economy, from 2022 to 2031.

A spokesman for the White House budget office declined to comment on Thursday.

Administration officials are set to detail the full budget, which will span hundreds of pages, on Friday in Washington. 

On Thursday, Mr. Biden is scheduled to deliver an address on the economy in Cleveland.


Jim Tankersley is a White House correspondent with a focus on economic policy. He has written for more than a decade in Washington about the decline of opportunity for American workers, and is the author of "The Riches of This Land: The Untold, True Story of America's Middle Class." @jimtankersley

Fed framework holds central bank hostage

Balance of risks for monetary policy has flipped away from deflation to longer-term instability

Mohamed El-Erian

Jay Powell, Federal Reserve chair. In a way, the US central bank has no operational choice but to stick to its transitory narrative given its recent adoption of a new monetary framework. © AP


According to an old saw, the difference between lawyers and many other professions is that the former can argue with 100 per cent conviction even when the foundation for their view is uncertain or low.

The US Federal Reserve these days seems to be acting more like a lawyer than an economist. 

Once again, it has set aside accumulating evidence about the strong economic recovery, dismissed financial stability concerns, and reiterated that the rise in inflation would be transitory.

By contrast, many economists are either unsure, or outright worried about inflation being persistent. Indications of market froth are multiplying in an “everything rally.” 

More companies are warning about rising input costs, with some signalling that this will be passed on to prices.

The contrast between the Fed stance and all this is why policy risk has climbed up the ranks to be one of the major challenges that investors will be navigating this year. 

The argument for keeping an open mind towards the nature of rising inflation is not one that dismisses the structural disinflationary effects of technology.

Nor does it deny that the initial jump in the inflation data has a lot to do with base effects and a temporary mistiming between additional spending and production. 

Instead, it draws on structural changes that have an impact on both the demand and supply sides of the economy.

The deficiency of aggregate demand that long dogged the US economy appears over. 

The Biden administration is keen to maintain its “go big” fiscal policy pivot and the private sector is able — and now more willing — to consume more from the private savings accumulated during the pandemic.

All this is supplemented by a general shift in economic policy away from coddling the corporate sector and the well-off to a more inclusive approach favouring those with a propensity to spend a bigger portion of their income on goods and services.

The resulting surge in demand is coming at a time when years of under investment have made the supply response less dynamic. 

Already — and it’s still early — companies are dealing with supply chain bottlenecks, higher commodity prices, industrial concentration, pervasive inventory shortfalls and, in some cases, labour issues.

Chip shortages have already shut down some production facilities. 

Meanwhile, economists are again revising up their growth projections for 2021, increasingly expecting double-digit growth for the second quarter and a 7 per cent-plus year.

In a way, the Fed has no operational choice but to stick to its transitory narrative given its recent adoption of a new monetary framework. 

This framework has wired in a delayed “outcome-based” approach, replacing the more pre-emptive inclination associated with a traditional “forecast-based” one.

As such, the world’s most powerful central bank is publicly committed to having to wait for several months of actual upward inflation deviations before responding. 

To highlight the point, 

Fed chair Jay Powell has noted that, given the view that the economy is “not close to substantial further progress”, the Fed is not even thinking about less stimulative monetary policy; and when it starts thinking, it will take ample time before implementing tightening measures.

This framework was designed a couple of years ago when no one anticipated the current huge structural transformations. 

Today, it holds the Fed hostage and increases the risk of a policy mistake.

Rather than cautiously tapping the brakes, like the Bank of Canada recently did, the Fed continues to fuel the loosest financial conditions, as recorded by Goldman Sachs’ weekly index. 

Froth and excessive risk-taking in markets will accompany an upward migration in both actual and expected inflation. 

Ultimately, the Fed may be forced to slam on the monetary policy brakes, risking undermining what should be a long-lasting inclusive recovery.

In such an economic scenario (which, in my opinion, carries even odds, if not somewhat higher), investors would risk losses on both equity and bond holdings. 

They could also be shaken if markets start tightening in reaction to a Fed that is visibly falling behind the curve.

For quite a while now, the Fed has worried about a balance of risk tilted towards deflation. 

That balance of risk has flipped.

It’s not just time for the Fed to start thinking about less monetary stimulus. 

It’s time for it to taper its markets interventions for the longer-term wellbeing of the economy and the structural health of financial markets.


The writer is president of Queens’ College, Cambridge university, and adviser to Allianz and Gramercy

Joe Biden’s battles have just begun

The US president’s policies sound great, but implementing them will be the hard part

Rana Foroohar

© Matt Kenyon


Most Democrats I know are positively giddy about Joe Biden’s presidency. 

This man is like a political Yoda, harnessing the Force of government to turn round the worst economic crisis since the Depression in 100 days. 

His Jobs Plan, Covid crisis management and moves to shift the country to a system that rewards work not wealth involve changes many had hoped to see for decades. 

The agenda includes higher labour standards and a fairer tax system, investments in healthcare, childcare and education, and more resilient supply chains. 

Even Republicans are on board with things like better roads and broadband.

Some of what Biden is proposing, such as using union labour in federal contracts and defending US trade interests, can be done with the stroke of a pen from the White House. 

But the multitrillion-dollar stimulus programmes will have to pass through Congress. 

That depends on keeping Democrats’ slim House majority (the Senate is split 50-50). 

Even if plans pass, implementation will be complex.

Practical details of many of the programmes — how they would roll out, which agencies (state or federal) would be in charge, and how they would be funded — are still scant. 

But as more concrete plans emerge, it’s probable that they will involve trade-offs between myriad interest groups. 

That’s when the hard work really begins.

First, there are the usual considerations to be made between politics and policy, which are particularly important in advance of the midterm elections, where Democrats risk losing their margin of support in the House.

Surveys show that both Republicans and Democrats want infrastructure investment in new bridges and broadband. 

The question is where the money flows first. 

A large percentage of building trades unionists voted for Donald Trump in the last election. 

Those voters, many of whom are in swing states, want early spending on shovel-ready projects that will put large numbers of labourers to work quickly, something the president acknowledged in his address last week to Congress, calling his jobs plan a “blue-collar blueprint” for “building back better”.

Rebuilding bridges and roads is certainly necessary and provides opportunities for ribbon cutting. 

But bolstering broadband in underserved communities, some of which are rural but many of which are in large urban areas, is arguably even more important. 

Yet such efforts are less visible. 

Initial investments would go to equipment rather than people, and the process of laying cable and fibre is slow moving. 

The same thing goes for things such as bolstering semiconductor supply. 

Building a foundry takes years, not months.

That underscores the tension between short-term versus long-term priorities. 

US capital markets and in particular venture capitalists want quick results and big exits. 

But rebuilding the industrial base and transitioning to a green economy is a multi-decade proposition. 

It may require an entirely new long-term funding system, such as a public infrastructure bank, not to mention a commitment to industrial policy. 

It will also require the support of allies. 

Bridging the gap between what will sell at home versus what sells abroad may be the president’s biggest challenge. 

In his Congress speech, Biden said he has had conversations with world leaders who believe that the US “is back” but want to know “for how long?” 

Europeans understandably want to be able to count on American political stability before they commit to liberal democratic alliances around trade, tax and technology, particularly given the importance of China-EU trade ties.

Europe and America need each other and should be working together to develop a digital alliance that provides a liberal-democratic alternative to state-based surveillance capitalism Beijing-style, or the unfettered Big Tech monopolies represented by the Silicon Valley groups. 

But even if Europe realises that its long-term interests are best protected by strengthening ties with Washington rather than Beijing, Europeans and Americans have different corporate stakeholders that are lobbying for priority and protection.

Witness, for example, Apple and Google fighting Bayer, Siemens and BASF over patent rules and who gets what share of the value of the 21st-century digital economy. 

Or European concerns about US data regulation. 

Germany will be ground zero for how all this plays out, as the US pushes the country to choose between various 5G and chip systems. 

In this battle, German exporters, which sell both to the US and China, have much to lose. 

As one lawyer representing powerful US labour interests told me recently: “Germany is trying to have it both ways with China, and they can’t.”

Neither can Biden be both a pro-labour president and one who appears to go easy on Big Tech. 

Silicon Valley is a huge lobbying presence in Washington, with politicians of both stripes in its pocket. 

The Uberisation of more kinds of work, the failure of union activists to organise at technology companies such as Amazon, and the argument that platform monopolies shouldn’t be broken up because they need to stay big to defend America’s national economic interests all threaten Biden’s vision of “work not wealth”. 

This political Yoda’s battle has only just begun.

Housing Is So Hot That U.S. Builders Have to Stop Taking Orders

Long waiting lists, rising construction costs and labor shortages send new-home prices soaring

By Prashant Gopal and Jordan Yadoo

As demand soars, homebuilders are shifting away from fixed prices.  Photographer: Sergio Flores/Bloomberg


Across the U.S., house prices are skyrocketing, bidding wars are the norm and supply is scarcer than ever. Now the market is too hot even for homebuilders.

Demand is so fevered -- and construction costs are climbing so quickly -- that overwhelmed builders are suppressing orders and shifting away from fixed prices. Companies including D.R. Horton Inc. and Lennar Corp. are experimenting with blind auctions in areas such as Texas, Florida and southern California. Some smaller firms have stopped signing contracts altogether.

“We’ve shut off sales until homes are nearly completed,” said Greg Yakim, a partner at CastleRock Communities, a privately held builder in Texas. “We have huge waiting lists.”

In a global economy roiled by supply shortages, the U.S. housing market is struggling with a collision of pandemic-related forces that’s holding back new inventory just when it’s needed most. Buyers are stampeding for new homes as remote work upends employment, while soaring lumber costs and a shortage of workers are slowing construction. 

The result is home prices, already reaching unaffordable levels for many Americans, are set to keep rising.


Homebuilders are stationed right where they need to be, in the lower-cost cities and suburbs where buyers are heading for more space and job shifts. 

But they’re waiting as long as possible to take orders because delays are common and future costs uncertain. 

And why lock in specific prices into contracts when they’re likely to be much higher when homes are completed?

“They’re selling the homes for as much as they can get, just like every home seller in America,” said John Burns, a national homebuilding consultant in Irvine, California.

About 19% of builders are delaying sales or construction and 47% have added escalation clauses into contracts, allowing them to lift prices as costs increase, according to an April survey by the National Association of Homebuilders. 

U.S.housing starts tumbled 9.5% last month, government data released this week showed, suggesting the industry is being held back by supply-chain constraints.

Builders are so overwhelmed with backlog, and current demand is so strong, that they’re having to slow sales or force buyers to bid up prices, said Vaike O’Grady, the regional director in Austin, Texas, for real estate advisory firm Zonda. 

About 63% of respondents to a nationwide industry survey by her firm said they are limiting the number of contracts per project that they sign each month.

“It’s something that we’ve never seen,” said O’Grady, who has been in the industry for 30 years. 

“The builder’s job has gone from trying to sell homes to trying to build homes.”

Companies are facing delays for everything from sheet rock to cabinets and kitchen appliances. 

As a result, homes are taking about a month longer to build, according to Alex Barron, a homebuilding analyst with the Housing Research Center. 

Lumber prices have soared as much as fourfold in the past year, though they have dropped in recent weeks as traders speculate costs have climbed so high that they’ll push down demand.

Lumber prices have soared, adding to housebuilders’ expenses. Photographer: Sergio Flores/Bloomberg


The shifts mean that builders are more frequently turning to speculative homes constructed without a buyer, Barron said, so they can capture the highest price by listing only when houses are nearly ready.

Some also are following a practice that’s increasingly widespread in the existing-home market: setting a quick deadline for bids and then choosing the best one.

“We are very excited to announce that we now have homes available in the final phase of Pioneer Crossing East!,” D.R. Horton, the largest U.S. builder, wrote in an email to local agents in Austin on May 3, giving buyers just a week to get bids in. 

“Please note -- due to demand, we anticipate receiving multiple offers on many of our properties and are advising customers to put forth their highest and best offer for consideration.” 

A representative for D.R. Horton didn’t return messages seeking comment.

Lennar is taking a similar tack for some projects. 

A recent email to Florida brokers promoting its Babcock Ranch project in Punta Gorda said the builder “will entertain offers on certain homes in this community rather than publish a specific sale price.”

Lennar said setting bids is beneficial for homebuyers who otherwise would be sitting on waiting lists and wouldn’t have a chance to make an offer on a house.

The company’s offers program “gives everyone a fair and equitable opportunity to make an offer on the right home for their budget,” said Darin McMurray, president for Lennar’s southwest Florida division.

For a buyer who manages to nab a deal, the terms can change. Some contracts in the Atlanta area now have opt-out clauses for both builders and buyers, said Trish Byce, a local agent and a former homebuilder.

“Builders cannot give you a firm price today,” Byce said.


In Texas, the land of open spaces, builders suddenly are running short of lots. 

The pandemic migration has brought in out-of-state buyers with big bank accounts who are crowding out locals with outsized bids, especially in the state’s two hottest markets, Austin and Dallas.

Texas builder Highland Homes now meters out about three homes per community at the start of each month, especially in hot areas like Austin, said Aaron Graham, a senior vice president at the company. 

The builder doesn’t want to get overwhelmed with business because buyers already in the pipeline need attention and it takes time to replenish lots, he said.

Highland’s wait list at one Austin community reached 140 for just 10 available lots. 

The company has increased prices by about 25% from a year earlier in the city, which has seen an influx of technology workers as firms such as Oracle Corp. move from the West Coast.

“At the beginning of the month, we release our homes and start at the top and go down the wait lists,” Graham said. 

“Sometimes prices have gone up and they get priced out.”

Kenny Albert and Caitlin MackCourtesy: Kenny Albert


It took Kenny Albert and Caitlin Mack three offers before they were able to win a contract for a home at D.R. Horton’s Tiermo community, about 12 miles east of Austin’s center. 

In their first bid, they offered $17,000 over the starting price of $330,000 and were told “you weren’t even close,” said Albert, 26.

They were turned down for another home two weeks later and finally landed a deal this week, offering about $14,000 over the asking price of $321,640. “I think it was pure luck, honestly,” Albert said.

Some buyers have had small, local builders cancel deals even after contracts were signed, or ask for more money, said Ram Konara, a real estate broker in Dallas. 

His clients keep losing bidding wars for existing homes and finding a newly built property is even harder, he said.

“Some builders aren’t even opening the doors in their model homes for buyers,” Konara said. 

“There’s no point in opening the door. 

If there is any home right now, it will sell within an hour.


— With assistance by Marcy Nicholson

What if the Fed Can’t Raise Interest Rates? Why Near-Zero Is the New Normal.

By Lisa Beilfuss

Fed chief Jerome Powell, shown late last year, could find it difficult to start liftoff on interest rates, let alone ending bond buying. / Daniel Acker/Bloomberg


When it comes to Federal Reserve policy, investors are focused on the wrong question.

Investors continue to agonize over when the Fed will trim its $120 billion in monthly asset purchases, says Joe LaVorgna, chief economist for the Americas at Natixis, with anxiety rising after minutes from the Federal Open Market Committee’s April meeting showed some policy makers think taper discussions should begin in “upcoming meetings.” 

A more important question, LaVorgna says, is when will the Fed raise interest rates. 

More important still: whether the Fed actually can raise rates. 

Financial markets’ sensitivity to monetary policy has never been higher. 

The Fed’s balance sheet has doubled since the end of the last financial crisis, now 40% of gross domestic product. 

By buying massive amounts of bonds, the Fed has lowered rates and used asset prices—especially stocks—as the primary tool for monetary policy, says LaVorgna. 

That’s through the so-called wealth effect, or the tendency for consumers (two-thirds of GDP) to spend more as their assets grow. 

And so any correction in stock prices would negatively affect economic growth and thus prevent the Fed from tightening, he says.  

That’s not to mention the prospect of further fiscal stimulus, which itself would make tapering bond purchases a tall order. 

“Who would buy the potentially trillions of dollars of additional debt?” 

LaVorgna asks, as the Fed has become such a dominant force in the bond market.  

“The Fed’s balance sheet keeps growing and the stock market keeps rising,” he says. 

“Fearing a contractionary GDP effect from lower asset prices on future economic activity means the Fed may never be able to normalize interest rates,” LaVorgna says.

That’s one piece of the argument that the Fed may not be able to meaningfully lift interest rates. 

Another is the debt side of the equation. 

Consider the fact that the Fed was unable to lift rates above 2.5% during the last tightening cycle and had cut rates in several meetings before the pandemic prompted its emergency actions early last year. 

Since then, U.S. households, businesses, and the federal government have grown only more indebted.

Therein lies the conundrum. 

If the Fed tightens, the existing debt pile becomes more expensive to service, hampering economic growth. 

If the Fed doesn’t tighten, debt across households, companies and the government continues to grow, making it ever tougher for the Fed to move. 

That’s a particular problem if inflation is something more than transitory, casting doubt over the Fed’s ability to quell a potential price spiral.

The Fed has put itself in a box that will be difficult to get out of, especially if that economy’s growth rate slows next year—which is almost a certainty given this year’s reopening boom, LaVorgna says.

The upshot: tightening, via both tapering and interest-rate increases, may be much further away than the market currently expects. 

(The Fed has said it would keep rates unchanged through 2023, while investors are pricing in the first 0.25% rate increase by January 2023.) 

For now, that would translate into ongoing stock market gains, especially in rate-sensitive areas like technology. 

What that means for the economy is another question, and what it means for markets longer term is yet another.

“It would not surprise me if in the next crisis the Fed crosses the final red line and buys equities,” LaVorgna says, what he says would amount to a “leveraged Fed put,” based on the belief that the Fed will inevitably come to the market’s rescue.

Whatever the answers, the questions facing U.S. investors are bigger and more consequential than when tapering and rate liftoff might begin.