Fed Policy: “Move Softly and Carry a Big Stick”
August 28, 2023
By Tom Limoges
VP - Investments
Last week, I read a historical letter written to Theodore Roosevelt regarding the formation of a commission to help arbitrate and stop the Great Coal Strike of 1902. The encouragement of Roosevelt and banker J.P Morgan was enough to convince business leaders to abide by the commission’s findings and end the strike. Some members of the commission included a judge, a railway conductor, and a bishop. No seriously, this is not the start of a joke…
Theodore “Teddy” Roosevelt was famous for more than just solving this labor dispute. He was also a conservationist and helped establish the National Parks, US Forest Service and 150 national forests. The subject of this blog surrounds his comments as Vice President, where he stated “speak softly and carry a big stick.” This quote was his vision for America’s foreign policy and became known as Big Stick Ideology. There are several similarities between this quote and the Federal Reserve's (Fed's) recent policy and actions.
Roosevelt's “Big Stick” Diplomacy:
Theodore Roosevelt's foreign policy mantra, “speak softly and carry a big stick,” emphasized the importance of diplomacy backed by military power. This philosophy suggested that nations should engage in negotiations and conflict resolution with tact and diplomacy, all the while having a formidable military force to deter adversaries from challenging their interests. This approach aimed to prevent open conflicts through assertive posturing.
The construction of the Panama Canal is the most widely used example of “Big Stick” diplomacy. Roosevelt sent American warships off the coast of Colombia to protect a Panamanian uprising. Colombia didn't dare cross the American warships, which allowed for the creation of an independent Panama, which in turn granted the United States a lease on the land across Panama to build the canal.
Federal Reserve's Monetary Policy:
On the other hand, the Federal Reserve, the central banking system of the United States, employs a monetary policy that also embraces the notion of a soft approach combined with a strong influence. This approach is soft in the sense that it operates largely behind the scenes. The Fed gives the markets just enough information to stay informed and transparent, yet takes a bolder approach when needed. The Federal Reserve's primary “big sticks” include controlling interest rates and managing the money supply to achieve economic objectives such as stable prices, maximum employment, and moderate long-term interest rates.
The parallels between Roosevelt's "big stick" diplomacy and the Federal Reserve's monetary policy are striking. Both strategies seek to influence behavior while maintaining a composed and tactful demeanor. Roosevelt's approach aimed to achieve global stability through negotiation while showcasing military strength, while the Federal Reserve uses monetary tools to guide economic activity without making sudden, disruptive moves. At the annual gathering of global central bankers in Jackson Hole, Wyoming last week, Chairman Powell indicated in his comments following the event that he would be willing to hold rates for now, but left the door open for future rate hikes.
Recently, stronger than anticipated economic growth put the Fed in somewhat of a bind. While economic strength is considered a positive, too much strength can cause problems with inflation. The Fed is steady with its desire to see inflation reach its 2% target. The market’s current expectation is the Fed will maintain interest rates in September (5.25% - 5.5%), but may use that big stick and raise interest rates later in the year.
Opportunities for Investors
Over the last 18 months, the Fed used its “Big Stick” in terms of raising short-term interest rates. As a result, investors placed significant interest in short-term T-bills as part of their overall investment portfolio. More recently, rates on more intermediate-term bonds moved up and now offer attractive opportunities. For instance, the 10-year Treasury bill was yielding roughly 3.75% near the beginning of the year is now yielding 4.25% as of the end of last week (8/25). Fixed income investors are now finding opportunities in high quality bonds not seen in the last 15 years.
If you have any questions regarding opportunities in bonds, please reach out to your wealth management advisor today.