Why it's not such a bad thing for the Fed to keep interest rates high for a long time
U.S. Federal Reserve Chairman Jerome arrives to testify at the House Financial Services Committee hearing on the Federal Reserve Board's Semi-Annual Monetary Policy Report on March 6, 2024 at the U.S. Capitol in Washington, DC.・Chairman Powell.
Mandel Gunn | AFP | Getty Images
It's hard to argue that rising interest rates are having a significant negative impact on the economy, as the economy is doing well and the stock market, despite recent ups and downs, has been doing pretty well.
So what if policymakers decide to keep interest rates the same for a longer period of time and get through the rest of 2024 without cutting rates?
Despite the current climate, this is an issue that is shaking Wall Street and making Main Street uncomfortable as well.
“If interest rates start going up, you're going to have to adjust,” said Quincy Crosby, chief global strategist at LPL Financial. “The way it's calculated has changed. So the question is, do we have a problem if interest rates stay high for a long period of time?”
The higher long-term interest rate stance was not what investors were expecting in early 2024, but now they have to deal with inflation. Proven to be more sticky It exceeded expectations and is hovering around 3% compared to the US Federal Reserve's target of 2%.
Recent statements from the Fed chair Jerome Powell And other policymakers are solidifying their views: Interest rate cuts aren't coming In the coming months. In fact, that possibility is also being talked about. 1-2 additional hikes That will be the case unless inflation eases further.
Big questions therefore remain about when exactly monetary policy will be eased and what impact the central bank's position of leaving monetary policy on hold will have on financial markets and the broader economy.
Crosby said some of those answers will soon become clear as the current earnings season heats up. Executive officers will provide important details beyond sales and profits, such as the impact of interest rates on profit margins and consumer behavior.
“If there's a recognition that companies have to start cutting costs and that's going to lead to labor market problems, that's a potential problem path with interest rates this high,” Crosby said. .
But financial markets, despite the recent 5.5% decline in the S&P 500; Holds up for the most part In a higher rate landscape. Despite the Fed's unchanged policy, the market-wide large-cap index is still up 6.3% year-to-date and 23% above its late October 2023 low.
Rising interest rates could be a good sign
History tells different stories about the impact a hawkish Fed has had on both markets and the economy.
Higher interest rates are generally a good thing as far as growth is concerned. The last time that wasn't true was when then-Fed Chairman Paul Volcker suppressed inflation with aggressive interest rate hikes that ultimately and intentionally pushed the economy into recession.
There is little precedent for the Fed to cut interest rates during a period of strong growth like the current one, and gross domestic product (GDP) is expected to accelerate at an annual rate of 2.4% in the first quarter of 2024, which is faster than in seven quarters. The continuous growth rate will exceed the all-time high. 2%. Preliminary first quarter GDP figures are scheduled to be released on Thursday.
It's hard to argue that high interest rates caused recessions, at least in the 20th century.
On the contrary, the Fed chairman has often been blamed for keeping interest rates low for too long, causing the dot-com bubble and subprime market collapse that caused two of this century's three recessions. In another case, the Fed's benchmark fund rate was just 1% when the coronavirus-induced economic downturn hit.
Indeed, there is an argument to be made that there is too much emphasis on Fed policy and its broader impact on the $27.4 trillion U.S. economy.
“I don't think aggressive monetary policy actually moves the economy as much as the Fed thinks it does,” said David Kelly, chief global strategist at JPMorgan Asset Management.
Kelly noted that the Fed tried to use monetary policy to raise inflation to 2% for 11 years, from the financial crisis to the coronavirus pandemic, but largely failed. The past year has seen a decline in inflation that coincided with tightening monetary policy, but Kelly suspects the Fed had a lot to do with it.
Other economists have made similar arguments. In other words, while demand, the main issue that monetary policy affects, remains strong, supply issues, primarily beyond the reach of interest rates, are the main driver of the slowdown in inflation.
Kelly said interest rates matter in financial markets, which can affect economic conditions.
“Interest rates that are too high or too low distort financial markets, which can ultimately undermine the economy's productive capacity in the long run, create bubbles, and destabilize the economy,” he said. .
“It's not that I think we've set interest rates at the wrong level for the economy,” he added. “I think interest rates are too high for financial markets. Financial markets should try to get back to normal levels – normal levels, not low levels – and keep them there.”
The longer the path, the more likely it is.
Policy-wise, Mr. Kelly said, this would result in three quarters of interest rate cuts this year and next, bringing the federal funds rate down to a range of 3.75% to 4%. That's roughly in line with the 3.9% rate for the end of 2025 that Federal Open Market Committee members wrote about last month as part of their “dot plot” forecast.
Futures market pricing suggests a federal funds rate of 4.32% by December 2025, indicating an upward trajectory for interest rates.
Mr. Kerry has advocated a “gradual normalization of policy,” but believes the economy and markets can withstand permanently high interest rates.
In fact, he predicts the Fed's current “neutral” rate of 2.6% is unrealistic, an idea that's gaining attention on Wall Street. For example, Goldman Sachs recently opined that a neutral interest rate that is neither stimulative nor restrictive could be as high as 3.5%. Cleveland Federal Reserve Bank President Loretta Mester recently stated that this is a possibility. long-term neutral interest rate is higher.
As a result, while expectations for Fed policy have tilted slightly toward lower rates, there remains the view that interest rates will not return to the near-zero levels that prevailed in the years following the financial crisis.
In fact, over the long term, the federal funds rate has averaged 4.6% since 1954, even considering the seven years of near-zero interest rates since 1954. 2008 crisis Until 2015.
Government spending issues
But one thing that has changed dramatically over the decades is the state of our finances.
Since the coronavirus outbreak in March 2020, the nation's $34.6 trillion debt has exploded, increasing by nearly 50%. The federal government is expected to run a $2 trillion budget deficit in fiscal year 2024, with net interest payments on track to exceed $800 billion thanks to rising interest rates.
The deficit as a percentage of GDP in 2023 was 6.2%. By comparison, the European Union admits only 3% of her membership.
Troy Rudtka, senior U.S. economist at SMBC Nikko Securities America, said the massive fiscal policy has boosted the economy to the point where the Fed's interest rate hikes are less noticeable, but that could change in the coming days if benchmark interest rates remain high. He said there is.
“One of the reasons we didn't see this monetary tightening is simply a reflection of the fact that the U.S. government is implementing the most irresponsible fiscal policy in a generation,” Lutka said. “We have huge deficits going into a full-employment economy, but that's really what's keeping things afloat.”
But even if sales are strong, rising interest rates are starting to have a negative impact on consumers.
Credit card delinquency rates rose to 3.1% by the end of 2023, the highest level in 12 years, according to Federal Reserve data. Lutka said higher interest rates would likely lead to “shrinking demand” from consumers and ultimately create a “cliff effect” that would force the Fed to eventually concede and lower rates. .
“So I don't think we should cut rates anytime in the near future. But we will have to cut them at some point, because these rates are just crushing Americans, especially low-income Americans.” Stated. “That's a large portion of the population.”
Summarize this content to 100 words U.S. Federal Reserve Chairman Jerome arrives to testify at the House Financial Services Committee hearing on the Federal Reserve Board's Semi-Annual Monetary Policy Report on March 6, 2024 at the U.S. Capitol in Washington, DC.・Chairman Powell. Mandel Gunn | AFP | Getty ImagesIt's hard to argue that rising interest rates are having a significant negative impact on the economy, as the economy is doing well and the stock market, despite recent ups and downs, has been doing pretty well.So what if policymakers decide to keep interest rates the same for a longer period of time and get through the rest of 2024 without cutting rates?Despite the current climate, this is an issue that is shaking Wall Street and making Main Street uncomfortable as well.”If interest rates start going up, you're going to have to adjust,” said Quincy Crosby, chief global strategist at LPL Financial. “The way it's calculated has changed. So the question is, do we have a problem if interest rates stay high for a long period of time?”The higher long-term interest rate stance was not what investors were expecting in early 2024, but now they have to deal with inflation. Proven to be more sticky It exceeded expectations and is hovering around 3% compared to the US Federal Reserve's target of 2%.Recent statements from the Fed chair Jerome Powell And other policymakers are solidifying their views: Interest rate cuts aren't coming In the coming months. In fact, that possibility is also being talked about. 1-2 additional hikes That will be the case unless inflation eases further.Big questions therefore remain about when exactly monetary policy will be eased and what impact the central bank's position of leaving monetary policy on hold will have on financial markets and the broader economy.Crosby said some of those answers will soon become clear as the current earnings season heats up. Executive officers will provide important details beyond sales and profits, such as the impact of interest rates on profit margins and consumer behavior.”If there's a recognition that companies have to start cutting costs and that's going to lead to labor market problems, that's a potential problem path with interest rates this high,” Crosby said. .But financial markets, despite the recent 5.5% decline in the S&P 500; Holds up for the most part In a higher rate landscape. Despite the Fed's unchanged policy, the market-wide large-cap index is still up 6.3% year-to-date and 23% above its late October 2023 low.Rising interest rates could be a good signHistory tells different stories about the impact a hawkish Fed has had on both markets and the economy.Higher interest rates are generally a good thing as far as growth is concerned. The last time that wasn't true was when then-Fed Chairman Paul Volcker suppressed inflation with aggressive interest rate hikes that ultimately and intentionally pushed the economy into recession.There is little precedent for the Fed to cut interest rates during a period of strong growth like the current one, and gross domestic product (GDP) is expected to accelerate at an annual rate of 2.4% in the first quarter of 2024, which is faster than in seven quarters. The continuous growth rate will exceed the all-time high. 2%. Preliminary first quarter GDP figures are scheduled to be released on Thursday.It's hard to argue that high interest rates caused recessions, at least in the 20th century.On the contrary, the Fed chairman has often been blamed for keeping interest rates low for too long, causing the dot-com bubble and subprime market collapse that caused two of this century's three recessions. In another case, the Fed's benchmark fund rate was just 1% when the coronavirus-induced economic downturn hit.Indeed, there is an argument to be made that there is too much emphasis on Fed policy and its broader impact on the $27.4 trillion U.S. economy.”I don't think aggressive monetary policy actually moves the economy as much as the Fed thinks it does,” said David Kelly, chief global strategist at JPMorgan Asset Management.Kelly noted that the Fed tried to use monetary policy to raise inflation to 2% for 11 years, from the financial crisis to the coronavirus pandemic, but largely failed. The past year has seen a decline in inflation that coincided with tightening monetary policy, but Kelly suspects the Fed had a lot to do with it.Other economists have made similar arguments. In other words, while demand, the main issue that monetary policy affects, remains strong, supply issues, primarily beyond the reach of interest rates, are the main driver of the slowdown in inflation.Kelly said interest rates matter in financial markets, which can affect economic conditions.”Interest rates that are too high or too low distort financial markets, which can ultimately undermine the economy's productive capacity in the long run, create bubbles, and destabilize the economy,” he said. .”It's not that I think we've set interest rates at the wrong level for the economy,” he added. “I think interest rates are too high for financial markets. Financial markets should try to get back to normal levels – normal levels, not low levels – and keep them there.”The longer the path, the more likely it is.Policy-wise, Mr. Kelly said, this would result in three quarters of interest rate cuts this year and next, bringing the federal funds rate down to a range of 3.75% to 4%. That's roughly in line with the 3.9% rate for the end of 2025 that Federal Open Market Committee members wrote about last month as part of their “dot plot” forecast.Futures market pricing suggests a federal funds rate of 4.32% by December 2025, indicating an upward trajectory for interest rates.Mr. Kerry has advocated a “gradual normalization of policy,” but believes the economy and markets can withstand permanently high interest rates.In fact, he predicts the Fed's current “neutral” rate of 2.6% is unrealistic, an idea that's gaining attention on Wall Street. For example, Goldman Sachs recently opined that a neutral interest rate that is neither stimulative nor restrictive could be as high as 3.5%. Cleveland Federal Reserve Bank President Loretta Mester recently stated that this is a possibility. long-term neutral interest rate is higher.As a result, while expectations for Fed policy have tilted slightly toward lower rates, there remains the view that interest rates will not return to the near-zero levels that prevailed in the years following the financial crisis.In fact, over the long term, the federal funds rate has averaged 4.6% since 1954, even considering the seven years of near-zero interest rates since 1954. 2008 crisis Until 2015.Government spending issuesBut one thing that has changed dramatically over the decades is the state of our finances.Since the coronavirus outbreak in March 2020, the nation's $34.6 trillion debt has exploded, increasing by nearly 50%. The federal government is expected to run a $2 trillion budget deficit in fiscal year 2024, with net interest payments on track to exceed $800 billion thanks to rising interest rates.The deficit as a percentage of GDP in 2023 was 6.2%. By comparison, the European Union admits only 3% of her membership.Troy Rudtka, senior U.S. economist at SMBC Nikko Securities America, said the massive fiscal policy has boosted the economy to the point where the Fed's interest rate hikes are less noticeable, but that could change in the coming days if benchmark interest rates remain high. He said there is.”One of the reasons we didn't see this monetary tightening is simply a reflection of the fact that the U.S. government is implementing the most irresponsible fiscal policy in a generation,” Lutka said. “We have huge deficits going into a full-employment economy, but that's really what's keeping things afloat.”But even if sales are strong, rising interest rates are starting to have a negative impact on consumers.Credit card delinquency rates rose to 3.1% by the end of 2023, the highest level in 12 years, according to Federal Reserve data. Lutka said higher interest rates would likely lead to “shrinking demand” from consumers and ultimately create a “cliff effect” that would force the Fed to eventually concede and lower rates. .”So I don't think we should cut rates anytime in the near future. But we will have to cut them at some point, because these rates are just crushing Americans, especially low-income Americans.” Stated. “That's a large portion of the population.”Don't miss exclusive information on CNBC PRO
https://www.cnbc.com/2024/04/24/why-the-fed-keeping-rates-higher-for-longer-may-not-be-such-a-bad-thing.html Why it's not such a bad thing for the Fed to keep interest rates high for a long time
