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The U.S. Federal Reserve has signaled that it will raise its key interest rate by a half-point when its Open Market Committee meets this week. That was the word on Wall Street before last Friday’s inflation numbers hit Main Street.
As we have noted. With May’s unrelenting 8.6-percent inflation rate, a 40-year high, a growing number of analysts and investors speculate that the Fed might boost its rate by three-quarters of a point.
The Fed had indicated a plan to lift rates by a half-point at every committee meeting this year.
However, the new inflation data may push more Fed officials to decide that the central bank should raise its rate by at least another two points before January, The Wall Street Journal added, which would require at least one hike greater than a half-point.
“What we need to see is clear and convincing evidence that inflation pressures are abating and inflation is coming down,” Fed chair Jerome Powell said in a May WSJ interview.
“If we don’t see that, we’ll have to consider moving more aggressively,” he added.
TREND FORECAST: To make a difference against inflation, interest rates have to approach the speed at which prices are growing. For example, with U.S. inflation at 8.6 percent, the Fed’s base rate would have to rise to at least 6 percent to discourage spending.
Argentina has acted aggressively and appropriately: with inflation at 52 percent, the central bank raised its key interest rate to 44.5 percent. Factoring in compound interest, that rate offers a positive return to investors.
However, the Fed is both unwilling and unable to move rates that much that fast for fear of dumping the already-fragile economy into a recession.
Therefore, the Fed’s gradual rate hikes will produce little direct effect on inflation. Fewer people will take out loans to buy cars and houses, but scarcity and high prices in those markets already has reduced activity in them, as we reported in our Economic and Market Overview of 24 May, 2022.
People are still spending, but now are gouging their savings accounts to continue to buy, as we noted in “Americans: Spending More, Saving Less” (7 Jun 2022).
Recession is a cure for inflation, and we see a growing likelihood that the U.S. will slip into a recession, defined as two consecutive quarters of economic contraction, and fall through it into Dragflation, our Top 2022 Trend in which prices continue to rise, even if more slowly, amid a shrinking GDP.