Will They or Won’t They?
What else is anyone talking about in the financial news network? All eyes are now focused on the Federal Reserve and their decision to raise, or not raise, the Fed Funds Rate.
By the time you read this, we will know what the decision is.
I’m writing this before the decision so I am going to go out on a limb and say that I do not believe the Fed will raise the Fed Funds rate on January 26th.
The “markets” are all agog with the fear of higher interest rates. I don’t understand it.
On January 8th the Federal Reserve released the minutes of their December 15th meeting. Buried in the minutes was a one sentence reference to the consideration of raising the Fed Funds rate, perhaps sooner than they previously expected.
“Participants generally noted that, given their individual outlooks for the economy, the labor market, and inflation, it may become warranted to increase the federal funds rate sooner or at a faster pace than participants had earlier anticipated”
Minutes of the Federal Open Market Committee, December 14-15, 2021 (federalreserve.gov)
Then Chair Powell mentioned in his Congressional Testimony the possibility of a couple of rate hikes in 2022.
Horrors!!
Why does a mention of raising the Fed Funds rate put the markets in an absolute tizzy? The stock market as measured by the S & P 500 has seen some serious price declines as have the bond markets.
Price declines in stocks and bonds seems like an over-overreaction to the Fed increasing the Fed Funds rate from a target range of ZERO to one quarter of one percent (25 basis points) to what? 25 to 50 basis points? Still less than 1% ?
In anticipation of what the Fed might do, other interest rates have already increased.
Raising and lowering rates based on economic conditions and forecasts, is what the Fed does. It is their job.
Why does everyone seem surprised?
Yes inflation has hit an unexpected high note. Yes inflation is completely unfair to people who earn lower wages. Yes it is the job of the Fed to keep inflation low.
But even the Fed does not seem to be believe that the inflation we are experiencing today is permanent inflation. It is more like transient inflation caused in large part by supply constraints.
I’m sure the demand side economists versus the supply side economists are having a field day.
There is demand for goods and services, but supply is lagging, causing prices to increase.
According to the Institute for Supply Chain Management we can look forward to another year of supply disruptions [1]
The primary reason for ongoing supply disruptions points to the pandemic and the repercussions of shutting down entire economies.
Changing the Fed Funds rate cannot increase supply if supply is stuck in the ocean or production is turned to off.
In other words, the Fed cannot directly impact high inflation if inflation is caused by supply constraints.
Before COVID hit, the Fed had been raising the fed Funds rate steadily through 2018.
I need to make the distinction for you between the all-encompassing term “raising rates” versus raising the Fed Funds rate.
“Raising Rates” has become economic shorthand for raising the Fed Funds Rate. The Fed Funds rate is a target range.
It is the rate that banks and depository institutions are changed for overnight borrowing, and it is based on the requirement of banks to hold deposits in reserve.
Federal Funds Effective Rate (FEDFUNDS) | FRED | St. Louis Fed (stlouisfed.org)
As stock and bond prices began to tumble I said, “Wait a minute”. The Fed did not say they would absolutely, definitively raise the Fed Funds rate. And the Fed can change their mind based on new information.
As soon as COVID hit in 2020, the Fed started lowering the Fed Funds target rate quickly to a range of Zero to 25 basis points ( one quarter of one percent ).
Zero seems low to me. I would like to earn more than zero in a savings account.
Sometimes, like now, I think the markets place too much importance and too much attention on basic monetary tools. Thus rattling the markets.
Regardless of the Fed decision, don’t let the saber rattling keep you out of the investment world.
If anything it might be a time to look at some stocks that you like but have been expensive.
I’m looking to add more bonds to my portfolio. Even though I don’t think the Fed is going to raise the Fed Funds rate this week, I kind of wish they would.
I would like to earn more than 2-3 % on bonds!!
[1] 2022: Another Year of Supply Chain Disruptions (ismworld.org)
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