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Nouriel Roubini: There's a massive disconnect between markets and the Fed

Economist Nouriel Roubini speaks on the headwinds facing the markets in 2023 from the World Economic Forum in Davos Switzerland. You can see the entire interview here

Key Video Takeaways:

00:50: There's already a massive disconnect between markets and the Fed
01:13: Both the Fed & market will be surprised on how sticky inflation is gonna b

Video Transcript

- How bad is it going to be this year in equity markets?

NOURIEL ROUBINI: Well, if you believe in the softish landing scenario of a short and shallow recession where a couple of quarters of negative growth, say Q1 and Q2, then the market is a bit wobbly. But by the time that there is a slack in goods and labor market because of that recession, if a drop in price and wage inflation, then the Fed doesn't go all the way to $5.25, stays around $4.75, and then they cut rates already in the second half of the year.

And then you have a happy endings for growth and for the markets in the second half of the year. That's assuming that actually the markets are right. First of all, the Fed is telling the markets no way, even if we're optimistic, inflation is going to be slightly higher than you expect.

We're not going to have a real recession. We'll have a soft landing. Therefore, we have to go all the way to $5.25, stay on hold until the end of the year, and then cut rates next year. So there's already a massive disconnect between markets and the Fed, and the market being ahead of the curve makes the problem of the Fed worse.

Because the easing of financial condition with stock market going higher, bond yields falling, the dollar weakening, credit spreads narrowing implies more growth, and it makes harder for the Fed to achieve that inflation and they have to tighten actually more. Be given this tug of war within markets and the Fed.

What I'm saying is that both the Fed and the market will be surprised on how sticky inflation is going to be once it gets around $5, $6-ish, and then either they do much more, causing economic and financial crash, in which case the equity markets are going to be really sharply down because in a severe hard landing from current level equity prices will have to fall another 20%, or the wimp out. If they wimp out, then the market is going to rally. They'll be power put for a little while. But then once you have a changing of inflation expectation, longer rates rise, and then you still get down the line a crash of the stock market. You just postpone it by 6 months.

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