Yesterday the Federal Reserve hiked rates .25%. It is the second time they have tightened this year. And Yellen even laid out the foundation of “quantitative tightening” (QT), which is their beginning to unwind the Fed’s $4.5 trillion balance sheet.

How did the bond market react? Interest rates on the 10-year Treasury fell to around 2.10%. 

Why? Because bond investors are calling the Fed words, a bluff…

The economic data is all crummy. For instance, the CPI fell 0.1% against economists expectations of a .02% increase. And retail sales had their biggest drop in 16 months. Even the Atlanta Fed revised their Q2 GDP estimates to 3 – 3.2% from last months 4.3% estimate.

These aren’t signs of a recovering economy. These are signs that indicate a rather weak economy. And as I highlighted earlier this week, growth in real estate, auto, and commercial loans are spiraling downwards. 

What’s going on? 

The Fed is doing what I thought they would do. They are committing to this tightening 100%, even when the market isn’t buying their “economic recovery” banter. 

Why are they committed? Because they have no choice…

The Fed isn’t blind. Disregarding their smiles and carefully worded speeches, they know things aren’t looking good. 

After 95 months of expansion, although anemic, since the Great Recession, things are turning. And the Fed knows they must gear up for when a recession strikes.  

Imagine what would happen if the economy slides into a recession in a time of near-zero interest i.e. ZIRP (zero interest rate policy)…

ZIRP is the treatment for when recessions occur. Like how a doctor gives his patient antibiotics to cure an infection. 

But the economy is dangerously close to a recession. And the Fed can’t really cut rates because interest rates are already near 0. They won’t get any stimulus from that. Imagine the patient gets another infection while he’s still on the antibiotics. The doctor will have to prescribe something far more extreme since using the same dose of antibiotics won’t do anything.