Gradually Transitioning to Suddenly
Doug Nolan
Wednesday, in a six to three decision, the Supreme Court declared Louisiana’s SB8 district Congressional map unconstitutional.
As has become commonplace, the Justices were split along ideological lines.
Should we now expect similar ideological and political dynamics to take hold within the Warsh Fed?
Also on Wednesday, just a couple miles west along Constitution Avenue in the Marriner S. Eccles Building, an FOMC decision to leave rates unchanged with a loosening bias meeting produced an eight to four decision.
It was the first meeting with four dissents since the Greenspan Fed’s aggressive crisis-fighting easing cycle back in 1992.
May 1 – Reuters (Michael S. Derby):
“Federal Reserve Bank of Cleveland President Beth Hammack said Friday she dissented against the central bank holding on to an easing bias this week due to uncertainty around the economic and inflation outlooks.
‘Uncertainty around the economic outlook has increased in 2026 and makes the future path for monetary policy more uncertain,’ Hammack said…
The official said she voted against the Fed’s policy statement… that left the interest rate target range unchanged… because it retained language that pointed to ‘a pause rather than an end to the easing cycle.
I see this clear easing bias as no longer appropriate given the outlook.’
Hammack said there are now upside risks to inflation and downside risks to the job market.
She added inflation pressures are ‘broad based’ and ‘and rising oil prices present an additional source of inflationary pressure.’
Hammack’s dissent took place amid an unusually fractious Federal Open Market Committee vote that saw four officials break from the consensus.”
May 1 – Bloomberg (Matt Grossman):
“Minneapolis Fed President Neel Kashkari wrote Friday that heightened inflation risks from the Iran war led him to object to the Federal Reserve policy statement that followed this week’s meeting, because the statement implied that the Fed’s next move is likely to be a rate cut…
‘If the Strait of Hormuz remains closed, it is hard to see how oil, gas and other important commodities produced in the Middle East could find alternative routes to market,’ Kashkari wrote.
Given the risk that rising energy prices could extend a long stretch of above-target inflation, the Fed shouldn’t be signaling that its next move is more likely to be a cut, Kashkari wrote.
‘I believe the FOMC should offer a policy outlook that signals that the next rate change could be either a cut or a hike, depending on how the economy evolves,’ he wrote.”
May 1 – Bloomberg (Catarina Saraiva):
“Federal Reserve Bank of Dallas President Lorie Logan says she is increasingly concerned about inflation and the central bank’s policy guidance should be more explicitly pointing to the risks of both a rate hike and cut.
‘I am increasingly concerned about how long it will take inflation to return all the way to the FOMC’s 2% target’…
Logan dissented at the Fed’s April 28-29 meeting, disagreeing with language in the post-meeting statement that still pointed to an easing bias.
Says inflation was running ‘meaningfully’ above 2% even before surges in oil and other commodity prices.
‘The conflict in the Middle East raises the prospect of prolonged or repeated supply disruptions that could create further inflationary pressures,’ Logan says, adding that the labor market is stable.”
It's worth briefly touching on Greenspan Fed policy tensions, which led to an eight to four decision at the FOMC meeting on October 6, 1992.
The Fed had slashed rates five full percentage points over the previous two years to a then extraordinary 3.0%, as Greenspan orchestrated a steep yield curve and stealth banking system recapitalization.
CPI, while down significantly from 1991’s 6.0%, had stabilized by late 1992 at a still elevated 3.2%.
By the October meeting, the economy was recovering from recession. “Stagflation” concerns were central to a contentious policy debate.
Three inflation hawks led dissents: Cleveland Fed President Lee Hoskins, Dallas Fed President Robert Boykin, and Fed Governor Wayne Angell.
And while inflation was an issue in 1992, the much more pressing systemic risk somehow went unrecognized.
Fed-directed loose conditions had fomented a dangerous speculative Bubble in bond and derivative markets.
After trading to 9.0% in April 1990, 10-year Treasury yields were down to 6.35% by September 1992.
Speculative excess and market manipulation - by the likes of Salomon Brothers and Steinhardt Partners - would later be investigated and prosecuted.
The Bubble burst in 1994, with disorderly speculative deleveraging spurring the collapse of the Askin Funds and disarray throughout the mortgage derivatives marketplace.
Curiously, 1992’s eight to four decision also included an uber-dove, with Governor Martha Seger arguing for additional easing.
This Wednesday’s FOMC saw Stephen Miran crystallize his reputation as a devote Trump acolyte and credibility-challenged central banker.
What serious central bank official would today believe it appropriate to further loosen U.S. monetary policy?
Especially this week, it was the hawks that were building credibility.
April 30 – Associated Press (Matt Ott):
“The number of Americans filing for unemployment benefits tumbled to their lowest level more than 50 years last week...
U.S. jobless aid applications for the week ending April 25 fell by 26,000 to 189,000, down from the previous week’s 215,000…
This week’s number for new jobless aid applications was the fewest since September of 1969…
The total number of Americans filing for unemployment benefits for the previous week ending April 18 fell to 1.79 million, a decrease of 23,000.”
April 29 – Bloomberg (Mark Niquette):
“US orders for business equipment increased in March by the most since mid-2020, extending a yearlong stretch of solid capital investment fueled by spending on artificial intelligence.
The value of core capital goods orders… jumped 3.3% after an upwardly revised 1.6% advance in February…
‘The stunning degree of strength during a month when firms would have had valid reason to be cautious attests to the substantial energy in business investment that was bottled up last year due to policy-related uncertainty but is being unleashed over the past several months,’ Stephen Stanley, chief US economist at Santander US Capital Markets LLC, said…”
April 30 – Bloomberg (Vlad Savov):
“The biggest US tech firms now plan to spend as much as $725 billion this year on capital expenditures, primarily on AI data center equipment.
Alphabet Inc. and Meta Platforms Inc. both raised their full-year guidance for capex, while Microsoft Corp. gave its first estimate for spending through the end of December, matching Alphabet at $190 billion.
Amazon.com Inc. was alone among the big four data center developers — which have come to be referred to as the industry’s hyperscalers — to keep its figures unchanged, at $200 billion, though it reported a surge in spending in the March quarter that whittled down its free cash flow.”
The ISM Manufacturing Index was unchanged at a four-year high of 84.6, with 13 industries reporting growth versus only three experiencing contraction.
Notably, Prices Paid surged almost six points to a much stronger-than-expected 84.6 points – the highest since March 2022.
The Manufacturing PMI Index jumped two to a near four-year high 54.5.
The Output index rose to the high since April 2022.
Elsewhere, Housing Starts popped to a much stronger-than-expected 1.502 million annualized rate, the strongest since December 2024.
April Personal Income was reported up 0.6% (double forecast), the high since July’s 0.7%.
Up 0.9%, March Personal Spending was the strongest since December 2024 (1.0%).
At 5.7%, y-o-y spending growth was the most robust since January 2025 (6.0%).
March’s 3.5% y-o-y PCE (Personal Consumption Expenditures) reading – the Fed’s preferred inflation indicator - was the highest since May 2023 (4.0%).
Overheating risks are today highly elevated. Bubble “Terminal Phase” dynamics are by their nature highly unpredictable, capricious, and precarious.
Destabilizing liquidity overabundance is a hallmark, the upshot of rapid system Credit growth coupled with exorbitant leveraged speculation.
As we’ve witnessed, it’s a fine line between liquidity overabundance associated with speculative melt-up trading - and “risk off” speculative deleveraging and liquidity challenges.
Shorting and hedging play prominently.
Market pullbacks see heavy hedge fund shorting and market-wide put option buying, setting the stage for intense reversals powered by short covering and the unwind of hedges.
FOMO kicks in and it’s off to the races.
Squeezes, unwinds, and leveraged speculation are powerful liquidity creators and financial conditions looseners.
When President Trump is asked about gas prices, he now quickly shifts the conversation to record stock prices.
A booming stock market seems central to the administration’s midterms campaign strategy.
But at this point, a surging equities Bubble and attendant loose conditions risk acute bond market instability.
At this stage of the cycle, overheating and inflation risks are both highly elevated and responsive to loose conditions.
Two-year Treasury yields jumped 10 bps this week to 3.88%, with 10-year yields up seven bps to 4.37%.
Benchmark MBS yields surged 13 bps to 5.33%.
Treasury and global bond yields are increasingly vulnerable to upside breakouts.
Italian yields rose eight bps (to 3.86%), and Greek yields gained seven bps (3.80%).
German bund yields traded to a 15-year high (3.11%) in Wednesday Trading.
Japanese 10-year JGB yields rose another eight bps to 2.52%, trading this week to new highs back to 1997.
Australian yields were back above 5%.
April 30 – Wall Street Journal (Richard Rubin):
“The U.S. national debt now exceeds 100% of gross domestic product, crossing a once-unthinkable threshold, on the way toward breaking the record set in the wake of World War II.
As of March 31, the country’s publicly held debt was $31.265 trillion, while GDP over the preceding year was $31.216 trillion…
That puts the ratio at 100.2%...
That figure will likely climb for the foreseeable future because the federal government is running historically large annual deficits of nearly 6% of GDP...
The government is spending $1.33 for every dollar it collects in revenue, and the budget deficit this year is projected at $1.9 trillion.
That is little changed from 2025 as Republicans’ tax cuts kick in before their spending cuts take effect.
The final tally will depend on Iran war spending, tariff refunds and the strength of the economy.”
April 30 – Politico (Michael MacKenzie):
“Fitch Ratings is warning the US’s credit grade faces the challenges of a widening deficit that leaves its debt burden ‘far above’ other nations that share its AA score.
Deterioration is likely in the US fiscal position this year due to tax cuts in the One Big Beautiful Bill Act, despite offsets from tariff revenue…”
For years, there has been talk – from Fed officials to Wall Street analysts - of Treasury debt on an unsustainable trajectory.
But words of caution are always followed by reassurance that the day of reckoning remains off sometime in the future.
How does one go broke?
Well, it’s famously stated as “gradually then suddenly”.
Suddenly is feeling increasingly imminent.
The Iran war comes at a critical juncture for vulnerable global bond markets.
Crude oil is now up almost 80% y-t-d, with U.S. unleaded gasoline futures having now doubled.
The Bloomberg Commodity Index’s 3.0% weekly advance boosted y-t-d gains to 27.8%.
Up 8% this week, crude prices signal months of inflationary pain.
April 29 – Bloomberg (Courtney McBride, Roxana Tiron and Jen Judson):
“Pentagon officials said the Iran war had cost $25 billion so far, offering the estimate in a contentious congressional hearing that saw Defense Secretary Pete Hegseth trade barbs with Democrats over the administration’s handling of the conflict…
The $25 billion figure offered by the Pentagon raised questions given the huge cost of missiles and bombs expended in Iran, the ongoing naval blockade, as well as damage to US installations and destruction of equipment.”
The Iran war will meaningfully boost deficit spending for several years.
Replenishing our depleted munitions will be an expensive multiyear project.
While initially not much beyond a pipe dream, the administration’s $1.5 TN defense budget has quickly become a not so unreasonable estimate of spending requirements.
Surely enormous amounts of rare earths and expensive metals will be required.
Will the Chinese readily accommodate?
April 28 – Bloomberg (Malcolm Scott):
“China’s dominance of rare earths supply chains gives President Xi Jinping economic leverage worth $1.2 trillion in his planned summit meeting with US President Donald Trump in Beijing next month.
Fresh analysis from Bloomberg Economics finds that around 4% of US GDP — totaling some $1.2 trillion — is derived from industries that use rare earths.
While some US industries may be able to work around any supply disruption, most don’t have good substitutes and some would need to shut down in the event of any cut-off.
‘In some cases, rare earth inputs are ‘golden screws’: In the event of a disruption, manufacturers would be hard-pressed to substitute away or would need many months, if not years, to do so,’ BE’s Nicole Gorton-Caratelli and Chris Kennedy wrote…”
April 29 – Bloomberg (Ye Xie and Greg Ritchie):
“For much of the past few years, US Treasuries have failed to serve their traditional role as a sure-fire refuge from global market meltdowns.
During the last three big ones — caused by the post-pandemic inflation shock, President Donald Trump’s tariff rollout and, more recently, his war on Iran — US government bonds offered little protection.
In fact, each time they declined alongside risk assets like stocks.
In 2022, Treasuries tumbled even more than the Dow...
Inflation was the biggest culprit…
And that’s kept key bond yields pinned well above where they were in late 2024, despite several interest-rate cuts from the Federal Reserve since then.
But the episodes shine a spotlight on a deeper, more permanent shift that analysts say is underway: the gradual erosion in recent years of what’s known as a ‘convenience yield’ enjoyed by Treasuries.”
April 30 – Bloomberg (Subhadip Sircar):
“The Indian central bank’s intervention in the derivatives market rose sharply in March with its net short dollar position surging to a record $103 billion.
Net short dollar positions rose $25.4 billion from February…
The data… rose as the authority intensified its defense of the currency in the midst of surging crude prices following the US-Iran war.
‘The massive buildup was expected as the central bank defended the currency in the spot and forwards market due to the Iran war,’ said Madhavi Arora, chief economist at Emkay Global Financial Services Ltd.”
April 27 – Financial Times (Kate Duguid):
“Wall Street dealers’ Treasury holdings have jumped to the highest level since the global financial crisis as the Trump administration’s cut to regulation nudges banks back into the $31tn debt market.
Net Treasury inventories held by primary dealers, big banks that underwrite US government debt, have risen to about $550bn on average this year, from less than $400bn in 2025…
The holdings represent nearly 2% of the overall Treasury market, the highest proportion since 2007.
Analysts, investors and financial industry executives say the loosening of US capital rules is encouraging big banks to facilitate more Treasury trading, helping them regain a sliver of the ground they ceded to other financial groups after the 2008 crisis.”
It's unclear where all the demand will be for Trillions of additional Treasuries supply.
Interest from traditional buyers appears to be waning, replaced by hedge funds and Wall Street trading desks.
Caution is advised when extrapolating the past few years of unprecedented “basis trade” and other levered Treasury purchases.
The Treasury market is one major deleveraging episode away from serious trouble.
A high-risk inflationary environment.
Out of control deficit spending.
A deeply divided Fed in a most-uncertain transition.
Fed independence in jeopardy.
Historic AI arms race-related borrowing and spending.
An incredibly fraught geopolitical environment.
A global leveraged speculating community fully loaded in Treasuries and global bonds.
Throw in a global crisis of confidence in U.S. leadership, and there’s enough to initiate preparations for Gradually Transitioning to Suddenly.
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