U.S. Federal Reserve Chairman Jerome Powell speaks with David Rubenstein (pictured) during an onstage debate at the Washington Economic Club meeting at the Renaissance Hotel in Washington, DC, USA, February 7, 2023. None) answering questions fromReuters/Amanda Andrade Rhodes
Amanda Andrade Rhodes | Reuters
The Federal Reserve (Fed) is a year behind in rate hikes, and in some ways it’s getting closer and further away from its goals when it first sailed.
Just one year ago, on March 16, 2022, the Federal Open Market Committee enacted the first of eight rate hikes. The goal is to stem the stubborn wave of inflation that central bank officials dismissed as “temporary” for much of his year.
Over the ensuing year, inflation, as measured by the Consumer Price Index, has declined somewhat from 8.5% then to 6% now, and has continued to decline. While this is progress, it still falls well short of his 2% target for the Fed.
And as policymakers continue to grapple with a persistently high cost of living and a shocking banking crisis, it raises questions about what’s to come and what the implications will be.
“The Fed will admit that inflation has lasted longer than expected,” said Gus Faucher, chief economist at PNC Financial Services Group. “Having said that, the economy is still very good, given the fact that the Fed has tightened as aggressively as before.”
There is an argument on that point about growth. 2022 was a sluggish year for the U.S. economy, but 2023 at least starts on solid footing with a strong labor market. But recent evidence suggests the Fed has other problems besides inflation.
All of this monetary policy tightening — a 4.5% rate hike and a balance sheet roll-off of $573 billion in quantitative tightening — is tied in with the significant turmoil currently sweeping through the banking industry, especially for smaller financial institutions. is taking a toll on
The banking problem could overshadow the inflation battle unless the contagion is quickly contained.
“Collateral Damage” from Rate Hikes
“The chapter is just beginning,” said Peter Bookver, chief investment officer at Blakely Advisory Group, on the impact of policy changes over the past year. “There’s a lot of collateral damage when you not only raise interest rates after a long period of zero, but the speed of it creates bullishness on china shops,” he said.
“Bulls, until recently, were able to skate without tipping over anything,” he added. “But now it’s starting to turn things upside down.”
Rising interest rates are hitting banks holding safe-haven products such as government bonds, mortgage-backed securities and municipal bonds.
The Fed’s rate hikes have devalued the market value of these bond holdings, as prices fall as interest rates rise. In the case of Silicon Valley Bank, it was forced to sell billions of dollars it held at a significant loss. The confidence crisis is now spreading elsewhere.
As such, the Fed and Chairman Jerome Powell have six days to make key decisions before the rate-setting FOMC releases its post-meeting statement. Will the Fed stick to its often stated intention of continuing to raise rates until it sees inflation reach acceptable levels, or will it take a step back to assess current financial conditions before moving forward? Is it?
Interest rate hike planned
“If you’re waiting for inflation to return to 2% and that’s why you’re raising interest rates, you’re wrong,” said Joseph Lavogna, chief economist at SMBC Nikko Securities. “If you’re on the Fed, you want to buy options. The easiest way to buy options is to pause next week, stop QT, and wait and see what happens.”
market price The past few days have been tumultuous over what to expect from the Fed.
As of Thursday afternoon, traders had reverted to expecting a 0.25% rate hike, pricing in an 80.5% chance that the Fed Funds rate would be in the 4.75% to 5% range. CME Group data.
With the banking industry in turmoil, Lavogna thinks it’s a bad idea when trust is waning.
Depositors have withdrawn $464 billion from banks since rate hikes began, according to Fed data. That’s a 2.6% decline after a massive spike early in the Covid pandemic, but could accelerate further as the health of community banks comes into question.
“They’ve righted one policy mistake with another,” said Lavogna, who served as chief economist on the National Economic Council under former President Donald Trump. “I don’t know if it was political, but they went from extreme to opposite. I want you to be honest with me, but usually you don’t get it… from the government.”
Indeed, when analysts and historians look back at the recent history of monetary policy, there is much to chew on.
Inflation warnings began to appear in the spring of 2021, but the Federal Reserve has persisted in its belief that the rise will be “temporary” until inflation is forced into action. The curve is also signaling, warning that growth will slow as short-term yields exceed long-term durations, a situation that poses serious problems for banks.
Still, if regulators can resolve the current liquidity problem and the economy avoids a sharp recession this year, the damage from the Fed’s failure will be minimal.
“There are valid criticisms of Powell and the Fed based on last year’s experience,” PNC’s Faucher said. “Overall, they are doing well and the economy is in a good place given where it is at the moment in 2020.”