The no landing unicorns

There's a lot of talk about a "no landing" scenario, but such an idea makes no sense whatsoever. If there is to be no deceleration in the economy, that likely means demand stays elevated, and inflationary pressures stay sticky to the upside. In such a scenario the Fed would be much more likely to over-tighten, and inflict a recessionary environment due to the potential double whammy effect of raising interest rates beyond 5.5% and running off their balance sheet even more aggressively.

While we've seen some liquidity come back into the global financial system in the last few months due to the Treasury General Account, BoJ and PBoC, this isn't likely to be a durable phenomenon and it has offset the Fed and ECB's tightening efforts for now — as have legislative efforts to continue demand-driving stimulus, like the ironically named "Inflation Reduction Act".

With all of this going on, we've seen that demand remains elevated for both assets and services. Stocks, bonds, and real estate have been more resilient than one might have expected given this environment, as has the demand for labor with hiring surprising to the upside regularly. As a result we've heard more and more from Fed speakers that they may need to tighten further than the market expects. Even 5.75% is being priced in with some reasonable degree of probability by September now, with 6% not a far fetched upper bound terminal rate as inflationary data continues to come in hot.

But to conflate this economic and financial resilience with a "no landing" scenario is even more problematic than all of the "soft landing" predictions we saw before the last several major recessions. The most likely outcome is a rather hard landing, as it has been in just about every tightening cycle. Because the Fed habitually tightens and loosens too much.

Their true dual mandate being: creating and destroying bubbles. We're now in the destruction phase, and the stakes are high now as consumer inflation expectations are beginning to rise once again per UoM on a 1-year forward looking basis, while we see signs of price pressures remaining elevated. 2% inflation is going to be very difficult to achieve, and the Fed has a lot more work to do.

That same work, that tightening, combined with all of the economic and financial excesses over the last decade+, are going to be rather powerful headwinds for the next couple of years.

So, before we conclude that there will be "no landing", let's look at how prior hiking cycles unraveled both the economy and asset pricing in light of being in the midst of unwinding the largest multi-asset bubble in human history amid a period of elevated inflation, providing central banks with additional motivation to push further in to an over-tightened monetary policy framework.