Last week saw the Federal Reserve raise interest rates by a quarter percent for the first time in a few years. But did they do enough, and is the market expecting the committee to do enough? That's a question that won't be answered for years, but we all feel the consequences of a loose money policy. The Fed needs to do more and faster.
We remember just two years ago when Fed Chair Powell and the FOMC decided to slash rates to zero and re-create their bond buying program to help keep interest rates down on the long end of the curve. This was done to ease pressures from the pandemic, which we can see is now mostly contained.
In this instance, the Fed printed money and that was put back into the economy, but that creation spawned enormous price increases and inflation. The Fed must get this under control or else a much bigger problem will arise.
Sadly, some collateral damage has been done to prices and eventually that will hit the economy hard. High levels of inflation are here and making a huge impact, and the Fed needs to get that under control. Sure, the committee has removed the excess accommodation of bond purchases, but it needs to go further to insure price stability. That is one of their two mandates from Congress, the other being full employment - which is pretty close today.
Can the Fed afford to raise borrowing costs on the short end and potentially stifle demand, perhaps even throw the economy into a recession? The actual question should be, 'can they afford not to'. There are some serious pricing dislocations in the economy due to many factors, including supply chain.
Chair Powell talked about this recently and previously said any price increase was 'transitory'. That turned out to be a myth, and now we consumers are paying the price for it. Perhaps Chair Powell was 'hopeful' the problem would just go away. It didn't.
What steps can the Fed take to alleviate the problem? With inflation at levels not seen since the late 1970's, we need to go back to that era to match the playbook which broke the back of inflation for more than 41 years. What was the playbook? It was an aggressive series of rate hikes for Fed Funds, up to 22% but that did the trick. Until then, the economy was off kilter and price stability was wildly out of control. There were two short recessions during the hiking exercise but inflation came down sharply and had been tame - until now.
Bottom line, the Fed needs to continue on this rate hike campaign until they see inflation snuffed out or perhaps face consequences we could not even imagine. It could be a funds rate of 2.5% or 3%. It shakes me to the core to think about how bad things will get if inflation gets out of control.