Who Speaks for the Fed, and Fiscal Brinkmanship

Many market observers seem to be exaggerating the role of some Federal Reserve officials. Bullard, who has mentioned exiting from QE2 before completing the $600 bln of purchases. Plosser, a voting member has also sounded a bit hawkish, though not as much as Bullard. However, while these views have been highlighted, the comments by Evans, a voting member, and Rosengren, a non-voted have been played down, though they seem to reflect the general majority at the Fed.

The hawks will dominate tomorrow as well. Hoenig, who retires in October, Lacker and Bullard all will speak. It is not until Thurs that the centrists are heard in the form of Gov Tarullo and non-voting Pianalto. Lacker also speaks on Thurs. Friday, in addition to the jobs report, hawks Plosser and Fisher, the most likely dissenters at upcoming FOMC meetings speak, but this may be offset or blunted by NY Fed's Dudley. While attentive to the divergence of opinion among the Fed, we suspect that QEII will continue unabated and that monthly reviews are part of the process.

If the market truly thought Bullard spoke for the majority as some pundits and reporters would have it, we suspect that at least initially the equity market may be weakened and the yield curve (2-10 year) would flatten in response. While the curve has flattened 8 bp over the past month, there has been little change since the Plosser/Bullard comments which began at the end of last week.

The large Treasury supply this week coupled with the approaching debt ceiling may also be injecting some extra caution into the market. Indirect bidders, which includes among others, foreign central banks, took down 42.4% of today's 5-year note sale compared with 34.2% at the last 5-year sale.

The current debt ceiling looks to be reached on or around April 8. The President and congressional Democrats appear willing to make some small cuts in discretionary spending. The Republicans seem of two minds; the more aggressive in terms of cuts and confrontation are many of the newly elected members, but the Republican establishment seems more willing to compromise to avoid being blamed for any government shutdown.

A game of brinkmanship is being played out. It is not clear who will blink or when, which is what makes some investors nervous.