Is Fed Playing With Fire Tightening Into Slowing Economy?

 | Jun 27, 2017 02:48PM ET

Even the most optimistic of economists had to take a moment to ponder the weaker-than-expected Nonfarm Payrolls report at the start of the month (see NFP Reaction for more). As it turned out, the NFP report was just one of a series of disappointing economic data releases from the world's largest economy.

Timely economic figures on Non-Manufacturing PMI, PPI, CPI, Retail Sales, Capacity Utilization, Industrial Production, Building Permits, Housing Starts and Monday's Durable Goods Orders all came in worse than last month, with most of the readings coming in below economists' expectations as well. In other words, there is widespread evidence that US economic growth unexpectedly slowed through May and into June.

After about half a decade of traders fearing that the Fed was falling "behind the curve," the pendulum has swung definitively in the other direction. All of the sudden, some analysts fear that the Fed may be tightening into a slowing economy, an historically reliable signal of a looming recession.

Before we get ahead of ourselves, it's important to note that a single month's worth of poor data is not enough to shift the trend of slow-but-steady growth that has characterized the US (and global) economy since the Great Financial Crisis. There have been many months (and even quarters) over the last seven years when the US economy has downshifted before re-accelerating back to its "new normal" 2.0-2.5% annualized growth rate.

That said, the longer the streak of mediocre economic data extends, the more cautious the Fed will have to be about "normalizing" monetary policy. Already, market expectations for another rate hike this year, a development that was taken as a given as recently as a month ago, have faded to a 50/50 proposition based on the CME's FedWatch tool: