Federal Reserve rate hikes seem to be over for now, giving the bond market a reprieve and allowing a powerful S&P 500 rally to resume.
Here's why: The Fed's historic turnabout, from enabling massive budget deficits to directing the sharpest rate hikes in 40 years, has seemingly broken the budget.
The era of Fed quantitative easing and near-zero interest rates promoted carefree fiscal policies that led the U.S. to rack up $20 trillion in federal debt since the 2008 financial crisis.
Fitch Ratings, in August's U.S. credit rating downgrade, bemoaned "a steady deterioration in standards of governance." When Moody's cut its U.S. rating outlook to negative this month, it warned of "Rising political risk to the US' fiscal position and overall sovereign credit profile" as political polarization thwarts budget deficit reduction.
With its key interest rate already at zero and the recovery unusually subdued, the Federal Reserve announced a second round of asset purchases - this time Treasuries - and then a third.
Following soft recent jobs and inflation data, markets expect the Federal Reserve to cut its key rate a full point in the coming year to 4.25%-4.5%. That would reduce the risk of a near-term fiscal derailment over runaway debt-service costs.
Over the past several decades, the ongoing fall in interest rates and inflation, with little volatility, produced "Elongated cycles, with a recession every 10 years, if that," Timmer told IBD. The Federal Reserve could pivot quickly and pull out all the stops, if needed, without worrying too much that inflation would take off.
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