The Federal Reserve is ready to choke the US economy to kill inflation

The Federal Reserve’s newfound aggression means it’s likely that the US won’t be the only one at the mercy of the recession. Most other major central banks have raised interest rates and siphoned liquidity out of the system.

Europe, which has its own problems as a result of Russia’s invasion of Ukraine, is destined to experience an economic contraction, even though it lags far behind the Fed in raising policy rates. The Chinese economy has been severely depressed and stalled due to the coronavirus measures and the collapse of the property market.

The simultaneous slowdown in the world’s three largest economies and the tightening of global financial conditions currently being led by the Fed makes a global recession increasingly likely, perhaps avoidable. lose.

After the Fed’s announcement, the US dollar surged again to a 20-year high against a major trading partner. It has risen about 16.5% against a basket of these currencies this year, and has urged other central banks to take a more aggressive monetary policy to protect their currencies and minimize the inflationary effects of currency depreciation. There is a lot of pressure to adopt policies.

The Australian dollar is currently trading just above 66 cents. A month ago it was still over 70 cents, and recently he was over 75 cents in April.

By trying to keep up with already entrenched inflation, the Federal Reserve has no better option than to stifle the US economy and keep inflation under control.

The pace and extent of that decline is putting pressure on the RBA to continue raising cash rates. The Federal Reserve may not dictate global monetary policy, but it does have a significant impact on them through interest rate differentials and currency relativity.

It also affects other global financial markets.

Wall Street fell again on Wednesday after concluding that the Fed is intent on keeping inflation down and adjusting for a soft landing is now a much lower priority.

The FOMC forecast makes it clear that the committee expects US interest rates to continue to rise and remain so for longer. The media forecast for the Fed funds rate in 2024 is 3.9%, and it is still 2.9% in 2025, still above the Fed’s inflation target of 2%.

Rising inflation-protected 10-year Treasury yields are a threat to equity markets that value companies by their discounted future cash flows. The discount rate (real 10-year bond yield) was negative at the beginning of the year, but is now firmly positive. This will put even more pressure on the value of high-yielding stocks, especially technology stocks.

The S&P 500 fell 1.7% after the rate hike (down 21% this year), while the tech-heavy Nasdaq index fell 1.8%. It’s down about 30% this year.

The bond market also reacted strongly to the Fed’s announcement, pushing 2-year Treasury yields above the 2007 record of 4%.

It reached 4.05% on Wednesday as traders concluded the Fed’s “pivot” — a shift from tightening to easing policy in response to the economic slowdown — wouldn’t occur in the next year or so.

Market optimists had priced in a peak in U.S. interest rates by the end of this year or early next year at the latest. Chairman Powell’s commentary and his Fed’s famous ‘dot plot’ on his FOMC members’ forecasts showing that in 2024 he still expects the Fed Funds rate to be close to 4% gives their hopes a boost. I smashed it.

The market is now being led by Powell and the Federal Reserve, which expects at least one more massive rate hike of 0.75% this year, a fifth of that size, or at least another 0.50 percentage points more. and the market outlook (and economy) is bleak.

Monetary policy is a crude tool of influence with lags of uncertain duration. It should come as no surprise that Chairman Powell has refused to rule out a recession as a result of Fed policy.

By trying to keep up with already entrenched inflation rates (due in part to overly lax monetary and fiscal policies, and in part to the effects of the pandemic on global supply chains), the Fed has been fired. I had no choice but to tighten it up. stifle the U.S. economy and curb inflation. It seems they finally accepted it.

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The Federal Reserve is ready to choke the US economy to kill inflation

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