Inflation devours the economy and savings: within a few hours, about a week after the rate hike announced by the ECB for the July meeting, Fed, Bank of England and SNB (Swiss National Bank) raise the main reference rates. The reason is the same: soaring inflation. So much so that in the United States, after the Fed’s maxi squeeze, there is talk of Volcker Shock, a specter that actually hovered over the markets even before the announcement of the US central bank.
The FOMC, the Fed’s monetary policy arm, begins, announcing a 75 basis point squeeze, as bet by the markets, to the new range between 1.5% and 1.75%, record value from the period before the outbreak of the Covid-19 pandemic. Monetary tightening is the strongest since 1994.
It follows in Europe the SNB, the Swiss Central Bank, which raises rates for the first time in 15 years: the squeeze is 50 basis points, and brings rates from -0.75% to -0.25% (always negative). The institution announces that it still plans Swiss GDP growth at an annual rate of 2.5%in the course of 2022.
But this year’s inflation forecasts are raised from the previous outlook of 2.1% to + 2.8%. It is also raised the inflation outlook for 2023 and 2024, at rates of 1.9% and 1.6% respectively.
Global rate hike: after the Fed, it’s up to the Swiss SNB and the BoE
Finally comes the announcement of the Bank of England, BOE: UK central bank raises UK key benchmark rates by 25 basis points, from 1% to 1.25%, which is the record of the last 13 years.
This is the fifth consecutive tightening, which confirms the central bank’s fight against inflation, which is galloping at the highest rate of the last 40 years, equal to + 9% on an annual basis. And, within the Monetary Policy Commission, the hawks also had to swallow the toad: the decision to raise the cost of borrowing by 25 basis points was in fact voted by six of the nine members of the Monetary Policy Committee; three panel members – Jonathan Haskel, Catherine Mann and Michael Saunders – voted for a 50 basis point hike, which would bring rates to 1.5%, and which would be the highest since 1995. Further tightening moves I’m on the horizon.
The Bank of England in fact revised upwards the UK inflation outlook this year, and now he expects prices to “slightly above” 11%.
The UK Mortgage Example: Disastrous News for Families
Not only that: the forecasts indicate a contraction of the UK GDP during this quarter. What is the impact for UK citizens? Karen Noye, a mortgage expert at Quilter, gives a practical example: “Following the rate hike today, at 1.25%, someone with a mortgage worth £ 250,000 over 25 years will pay around £ 970. . If interest rates rise to 2%, monthly mortgage payments will rise to £ 1,059, a whopping £ 89 difference. With energy and food prices rising, this could be disastrous news for families. “
Among other things, “further monetary tightening is certainly not out of the question, an element that could begin to have an impact on house prices. The UK property market it is already showing signs of slowing and it has yet to be understood how it will cope with further monetary tightening and accelerating inflation. The prognosis is not good“.
Nor is it good for consumers in other areas affected by inflation, which has not yet peaked. The doubt that haunts the operators bears the names of stagflation, hard landing, recession, in the United States itself, struggling with a particularly hawkish Fed.
Almost 70% of the economists interviewed by the Financial Times and the University of Chicago Booth School of Business he believes the US economy will slide into recession next year. But was the Fed’s move to match market expectations with a 75 basis point hike really right?
Volcker Shock or not? Economists all reject Powell
He doesn’t think so Paul Donovan, chief economist at UBS Global Wealth Managementwhich even before the announcement of the US central bank had issued a warning with the comment ‘Don’t feed the trolls’, and who today releases another note, explaining what happened: “No – he underlines – we are not in the presence of a Volcker shock.”
The reference is to former Fed Chairman Paul Volcker who, as a Guardian article preceding the Fed announcement recalled, “became legendary as the central banker who slipped the world‘s largest economy into a deep recession, in order to drive inflation out of the system “.
Now, the Guardian points out, Jerome Powell, current Federal Reserve chairman, is referred to as the central banker who discovered a Volcker inside himself. The British newspaper article goes on to emphasize that Powell is hoping to be able to secure a soft landing for the US economy, in which the annual inflation rate can be reduced without triggering a recession ”. One goal, however, is that “It might be harder than you think”.
A recent study by former US Treasury Secretary Larry Summers warned in fact how Powell could be forced to launch a restrictive monetary policy of similar intensity to the one that was launched by Volcker forty years ago.
“To allow inflation measured by the core consumer price index to return to 2%, we almost need of the same disinflation of 5 percentage points that Volcker managed to guarantee“.
Volcker raised rates from 10.5% in July 1979 to 17.6% in April 1980then bringing the cost of money up to 20% (eventually causing a recession).
It must be said that US rates are now fluctuating between 1.5% and 1.75% after Jerome Powell’s move, not even comparable to those of 40 years ago.
So Paul Donovan, in his note today, replies to those who speak of Volcker Shock:
“The Federal Reserve raised rates by 75 basis points. This is not a Volcker Shock (which means taking control (of the rates) – with a clear strategy. It’s quite a “Burns Bumble”, with a lot of external pressures that are undermining the credibility and coherence (of the central bank). For investors, this means volatility ”.
Donovan reiterates what was said previously, namely that “CPI headline inflation (consumer price index) is not a superior parameter: it is rather a political fact ”.
“Forward guidance – remarked the expert – is no longer reliable (hadn’t Jerome Powell himself said recently that a 75 basis point tightening was not on the Fed’s table?). The Fed chairman suggested that the next hike could be 50 or 75 basis points, but since the guidance changes depending on the wind, why not a rise of zero or 100 basis points? “.
Donovan points out that more importance is now being given toheadline consumer price index than the PCE core index, which in theory should be the Federal Reserve’s preferred parameter. The comment from the chief economist at UBS Global Wealth Management raises doubts that the same parameters that previously relied on to examine the direction of inflation have changed, at least in the US.
Here the criticisms continue to flock.
Hold Powell: ‘Big mistake, Fed in dangerous territory’
‘A big mistake, ‘comments Robert Reich, former US Department of Labor secretary, based on the article published inCommon Dreams:
“Relying on the Fed to bring prices down is like treating someone with a fever by putting them in a freezer. In this way the true disease is not cured, and there is the risk of making things worse ”.
Reich also said that wage growth in the United States lags behind that of inflationary pressures.
“I understand the Fed’s urgency, but it has entered dangerous terrain. If he continues along this path – and this is what he has indicated he wants to do – the economy will slide into a recession. Over the past 50 years, whenever it has raised interest rates so fast and so much, the Fed has caused a recession“.
Economists are starting to fear a Volcker Shock, despite what Paul Donovan (who in any case criticized the Fed’s 75bp squeeze).
“It is well known that most of the inflation we are seeing comes from factors that have little to do with the strength of the US economy – said Dean Baker, senior economist at the Center for Economic and Policy Research – The jump in oil prices is due to to the invasion of Ukraine by Russia and the consequent sanctions. Fed rate hikes will not bring gas prices down ”. A comment that brings to mind the one made a few days ago by Mario Draghi’s right-hand man, economist Francesco Giavazzi, who criticized the ECB’s intention to kick off a roundup of monetary tightening.
Giavazzi pointed out that inflation in the euro area differs from that in the United States, as caused byrising gas prices, not from domestic demand. But from Baker’s statements it emerges that even in the United States there is a widespread perception that, at the root of the flare-up in prices, there is the component of Putin’s fault. And therefore the Fed can do very little.
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