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Jerome Powell is trying to hike interest rates without damaging the economy. Getting it wrong means recession, and he knows it.
The chairman of the Federal Reserve said Monday that the central bank is prepared to repeatedly hike interest rates — and by 0.5 percentage points if necessary— in order to get inflation under control.
The remarks on prices are the most aggressive yet from Powell, who has the very difficult job of hiking interest rates without pushing the US economy into recession — something economists call engineering a “soft landing.”
“If we conclude that it is appropriate to move more aggressively by raising the federal funds rate by more than 25 basis points at a meeting or meetings, we will do so,” Powell said during a speech to economists. “And if we determine that we need to tighten beyond common measures of neutral and into a more restrictive stance, we will do that as well.”
The strident tone from the Fed boss set off alarm bells on Wall Street, and stocks dropped during the speech. The central bank hiked rates last week for the first time since 2018, but only by a quarter percentage point.
The message from Fed officials is that they’re prepared to do “whatever it takes to bring inflation back to target,” said analysts at UBS. Market pricing suggests there’s a two-thirds chance of a half-point rate hike in May.
History suggests the Fed’s path ahead is fraught.
There have been 16 monetary policy tightening cycles in the United States, United Kingdom and Europe since the late 1970s. Thirteen of those have ended in recession, according to Neil Shearing at Capital Economics.
There are three reasons why higher rates have been followed by recessions:
- The economy is hit by a shock that has nothing to do with interest rates. The coronavirus pandemic, which put a stop to a 36-month Fed tightening cycle, is a good example.
- Central banks have been too timid, allowing economies to overheat and bubbles to form. When they pop, you get a recession.
- Central banks start hiking rates too late and then have to tighten aggressively to catch up with inflation, triggering a recession.
It’s the third risk that appears most relevant now. Recession is far from inevitable, said Shearing, but Powell is “now trying to achieve something that the historical record suggests is more likely to fail than succeed.
“History shows that the path to a soft landing is narrow – and the inflation shock from the war in Ukraine has narrowed it further,” said Shearing.
Powell has also been consulting the history books — and coming to a different conclusion. Looking only at the United States, he said on Monday that soft landings were successfully engineered in 1965, 1984 and 1994.
“I believe that the historical record provides some grounds for optimism,” he said, while noting that “monetary policy is often said to be a blunt instrument.”
“I hasten to add that no one expects that bringing about a soft landing will be straightforward in the current context—very little is straightforward in the current context,” concluded Powell.
Chinese stocks are on a roller coaster
Shares of major Chinese firms have swung wildly in 2022. That may continue, my CNN Business colleague Paul R. La Monica reports.
There’s plenty weighing on sentiment: worries about leading Chinese companies possibly getting delisted in the United States, Beijing’s crackdowns on big Chinese tech firms, criticism over China’s “no limits” relationship with Russia and a resurgence of Covid cases in China.
The iShares MSCI China ETF, which has big investments in top Chinese companies such as Tencent, Alibaba, China Construction Bank, Baidu and Nio, is down 16% so far this year.
But the ETF surged 12% last week thanks to strong rallies Wednesday and Friday. So why are investors suddenly a little more optimistic about China? It appears the Chinese government realizes the damage created by tumbling stock prices is not ideal.
A committee chaired by Chinese Vice Premier Liu He said last week that the government should “actively roll out policies that benefit the markets.”
“China’s promise to ease the regulatory crackdown and support property and technology stocks could be a game, and a trend, changer,” Ipek Ozkardeskaya, senior analyst with Swissquote, said in a report, adding that “it appears that the latest selloff was so strong that it brought the Chinese government to pull out the white flag.”
More uncertainty: The uptick in Covid cases in China may also push Beijing regulators to shift policy, as they try to minimize some of the supply chain woes that have hurt the Chinese economy.
A change in tone from Beijing would be welcome news for some Western investors. But experts warn that Chinese stocks will remain extremely volatile, noting that some US investors appear to be actively betting against some Chinese companies.
“With China’s State Council trying to talk up Chinese stocks we have seen the shorting community returning and very active,” Dan Pipitone, CEO and co-founder of brokerage firm TradeZero, said in a report last week.
Optimism fades
Just a few months ago, optimism among American CEOs hit record highs. But stubbornly high inflation, Russia’s invasion of Ukraine and a Covid wave in Europe have dimmed that sunny outlook.
The Business Roundtable said Monday that its CEO Economic Outlook Survey dipped during the first quarter. CEOs also indicated decreased plans for hiring and investment and lower expectations for sales.
The group, whose members are the chief executives of top US companies, emphasized that, despite the dip, the survey still reflects historically strong hiring plans and growth expectations.
But wait: It’s important to note that the timing of the survey, which was conducted between February 22 and March 11, means some business leaders shared their sentiments before the full scale of Russia’s invasion of Ukraine was known.
Since the war began on February 24, the economic costs have been widespread. The West has imposed heavy sanctions on Russia, threatening to disrupt the supply of energy, food and other key materials.
And it isn’t just Ukraine. The Business Roundtable acknowledged that the continued risk from Covid-19 and rising inflation are also creating a period of uncertainty, especially in the second half of this year.
Up next
Carnival reports before the opening bell. Earnings from Adobe will be released after the close.
Coming tomorrow: Earnings from General Mills and KB Home. Data on US crude oil inventories.
