Inflation: The Fed ‘has been and is still behind the curve,’ strategist says

S&P Global Ratings Chief U.S. Economist Beth Ann Bovino and Easterly Investment Partners Senior Portfolio Manager Josh Schachter join Yahoo Finance Live to discuss U.S. inflation, quantitative tightening, rate hike increases, gasoline price declines, and the outlook for the economy.

Video Transcript

BRIAN CHEUNG: But let's get a little bit of a deeper dive into the inflation data and the market response. For that, we got Beth Ann Bovino, S&P Global Ratings chief US economist, as well as Josh Schachter, Easterly Investment Partners senior portfolio manager. Great to have both of you on the show.

I want to start off with you, Beth Ann, just in terms of what we saw this morning. Again, hotter than expected inflation. What were components of this report that you kind of took particular note of? Are there any positive signs, green shoots that maybe we've seen inflation peak, despite the fact that this is the hottest we've seen since 1981?

BETH ANN BOVINO: Yeah, I saw the headline as pretty scary. And I still think it's really scary. I see it as the Fed is going to-- the question of stabilizing. Yeah, you did see some green shoots, I guess you could say. For one thing, we saw month over month food prices coming down on a month over month basis. That's higher than what we had.

But still, on a month over month, it's a lot better than what we had thought. Still, energy is just hitting so many people-- so many people's pocketbooks. So I think the affordability question, particularly for low income households, has not gone away. And I also see this as the Fed, given that the jobs number was holding up relatively well in the most recent report, I think the Fed can continue to be aggressive. We have 75 basis point hike for July. Could it be 100? I wouldn't be surprised.

BRIAN CHEUNG: And I want to turn to you, Josh, in terms of the market implications of this. We saw the overall equities markets blink. We saw the 10-year yield actually jump up. We're seeing that some of the-- some of a reversal there. So when you take a look at where we're seeing kind of reallocation here, do you want to move based off of the report that we've seen this morning? Or does this just kind of confirm what we already knew about the inflationary story in the United States?

JOSH SCHACHTER: Look, the Fed has been and is still behind the curve on inflation. It is running much hotter than I think people expected. And we do expect at least 75 basis points in a few weeks, maybe 100 basis points. But they won't be done there. Additionally, something else that's not being discussed quite as much that should be is quantitative tightening and the reduction of the balance sheet of the Fed.

Currently, they're running off about $47 and 1/2 billion in assets between treasuries and mortgage-backed securities from the balance sheet. They will increase that to $95 billion, starting September 1st. And that's going to put pressure on yields. And ultimately, the Fed, again, has put us in a pretty precarious situation in regards to inflation.

BRIAN CHEUNG: Yeah, and Josh, I actually want to drill down on that because the Fed funds futures market had priced in a pretty sharp increase in the odds of a 100 basis point, as the smart people call it, or 1% increase in the Fed's meeting at the end of this month. That's a big departure from what we've heard. They were messaging about a 1/2 percentage point or a 1/3, 3/4 percentage point increase instead. Do you see that happening, the Fed going full 1% at the end of this month?

JOSH SCHACHTER: I don't think they will. I think there's a chance, but just given like what you just said, they've been indicating that 75 is really the higher end on where they want to go. They've been behind this the whole time. So I'm not sure what they're doing is correct. I would probably err on the side of being more aggressive in this situation. But I'm not sure that they will.

BRIAN CHEUNG: And Beth Ann, just to kind of look again at what the next steps might be on the story of inflation, if it is, indeed, the case that the price declines we've already seen for gasoline at the end of June, at the beginning of July, might show a better looking July CPI report when we get that in a month, how long will that take to bleed through to the other categories that higher gasoline prices and higher oil prices have also led to when you think about that being a major input for a lot of exporters and, basically, any company that really relies on the supply chain using those type of oil sources?

BETH ANN BOVINO: Well, let's see how big a drop in the July numbers. It does look like we are seeing softening on the energy price numbers for July. So that's a positive. Still, the question is, how long will it last? Will exporters take that into consideration? And the concern I would talk about here is inflation expectations, which is a big factor that the Fed is watching. Will exporters see this as just a one-off?

And honestly, possibly so, given the Russia-Ukraine crisis is still ongoing, and Russia is putting the screws on oil prices at this point. So I would say that if the question is going to be on inflation expectations, will exporters see this as really a true sign, or is it just going to be a one-off and they'll ignore it, and inflation expectations will remain high?

BRIAN CHEUNG: Yeah, again, you do wonder just the high print that we're seeing here, how does that bleed through to inflation expectations? We'll have to see through other types of measures. Beth Ann Bovino, S&P Global Ratings chief US economist, and Josh Schachter, Easterly Investment Partners senior portfolio manager.

BETH ANN BOVINO: Thanks.

BRIAN CHEUNG: Thanks to both of you.