This earnings season will be troublesome for the Fed

Corporate America is about to show the Federal Reserve just how behind the curve it is in terms of monetary policy. U.S. companies are starting to report their first-quarter results this week, with the first being big banks led by JPMorgan Chase & Co. and Goldman Sachs Group Inc. These reports and the outlook provided by business leaders will likely provide a picture clearer of a rapidly changing economy than most of the data released right now.

Perversely, the better off companies are, the more aggressive the central bank will have to be to counter their success. Of course, the Fed doesn’t want to be in a position to actively try to torpedo growth and demand, but it may have no choice if companies provide evidence that they are able to easily impose higher consumer prices, continuing to fuel the highest rate of inflation since the early 1980s.

To be clear, I’m not saying the Fed is rooting against corporate America or hoping for signs of weakness among US households. In fact, central bankers are counting on economic momentum to achieve a so-called soft landing as they tighten monetary policy. They want households to be able to absorb higher borrowing costs, slower job growth and fewer wage increases without cutting spending too much.

But the Fed is clearly very concerned about the ability of businesses to systematically pass on their rising costs to consumers and ensure that higher inflation expectations take root in the American psyche. Such a development has traditionally made it more difficult to control inflation. If companies show unabashed strength in their earnings and outlook, the Fed will likely need to tighten monetary policy more intensely and in ways that create increased risk of an economic slowdown.

Federal Reserve Bank of Richmond Chairman Thomas Barkin referred to this reality in a recent conversation with Bloomberg Television’s Michael McKee, saying that one of the reasons he is willing to tighten more aggressively is because ” I still hear companies say they have pricing power.” Jonathan Golub, chief equity strategist at Credit Suisse Securities LLC, notes that earnings estimates for 2022 rose 1.8%. Bloomberg Intelligence predicts earnings per share for the S&P 500 index will end the year 37% above the pre-pandemic peak.

Corporate profits are expected to be robust, although consumer confidence is at its lowest since 2011 amid the fastest inflation since 1982. The government is expected to announce on Tuesday that the consumer price index rose by 8.4% in March compared to the previous year, compared to a gain of 7.9% in February. . Surveys show that more households are saying they plan to delay some major purchases due to higher spending.

Nonetheless, the trajectory for corporate earnings is still good enough that many investors will continue to invest in US stocks, arguing that there are few other places to put money since equities offer better protection. against inflation than bonds. It seems hard to believe with everything that’s happened this year, but the S&P 500 is only 6.43% below the all-time closing high of Jan. 3. As a result, general financial conditions have not tightened significantly and have even eased. on the sidelines as Fed Chairman Jerome Powell fuels market bets on more than 200 basis points of interest rate hikes through the end of the year.

Former New York Fed Chairman Bill Dudley went further in a Bloomberg Opinion column this week, saying the central bank should essentially force stock prices lower in order to more effectively curb inflation. Whether you agree with Dudley, it’s clear that after decades of pushing corporate valuations higher, the central bank is undergoing a massive U-turn.

Stock bulls are hoping and expecting companies to continue posting higher earnings, but if that happens, the Fed will be forced to take a tougher stance to curb demand. Ironically, if S&P 500 earnings reports are worse than expected, with signs of easing inflationary pressures, the Fed may have an easier time managing the competing pressures of slowing growth and inflation without trigger recession.

This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.

Lisa Abramowicz is co-host of “Bloomberg Surveillance” on Bloomberg TV.

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