The Federal Reserve has been tightening monetary policy since the mid-2022, but the impact may not be immediately apparent. However, a closer look at financial conditions reveals that the damage is already visible beneath the surface. Morgan Stanley’s composite of Treasury yields, the dollar, and energy prices has reached its tightest level since 2022, indicating that financial conditions are doing some of the Fed’s work, whether policymakers acknowledge it or not.

Economically sensitive stocks have fallen nearly 10% since mid-August, while the cap-weighted S&P 500 has remained relatively resilient. This disconnect suggests that the Fed’s tightening is having a disproportionate impact on rate-sensitive equities. The question is whether Warsh, a former Fed official, recognizes this tightening and its implications for the broader market. Acknowledgement could help stabilize rate-sensitive equities, while indifference risks extending the correction.

The Fed’s tightening can be seen in several factors, including:

1. Rising Treasury yields: The yield on the 10-year Treasury note has risen significantly since mid-August, reaching its highest level since 2022. This increase in yields has led to higher borrowing costs for companies and consumers, which can negatively impact economic growth.
2. Strengthening dollar: The dollar has also strengthened significantly since mid-August, reaching its highest level since 2022. A strong dollar can make exports more expensive for foreign buyers, leading to lower demand and slower economic growth.
3. Decline in energy prices: Energy prices have fallen significantly since mid-August, reaching their lowest level since 2022. Lower energy prices can lead to lower input costs for producers, potentially boosting economic growth.

While the Fed’s tightening may be having a disproportionate impact on rate-sensitive equities, it is important to note that the central bank’s ultimate goal is to keep inflation in check. The Fed has a dual mandate to promote maximum employment and price stability, and tightening monetary policy is a necessary step to achieve these goals.