The Federal Reserve raised interest rates by 75 basis points at the November rate meeting as scheduled, and the federal funds rate rose to a range of 3.75% to 4.00%. Powell hinted that the pace of rate hikes may slow, but the highs will be higher and rates will stay high for longer.
It is well known that Fed monetary policy depends on inflation and employment data. Therefore, predicting the inflection point of the Fed's interest rate hike requires first predicting the situation of U.S. inflation and employment. At present, it is neither possible to underestimate the duration of high inflation in the United States, nor to be overly optimistic about the US economy - the Federal Reserve is in an "impossible triangle" to raise interest rates.
The duration of high inflation in the United States cannot be underestimated
In terms of inflation, the duration of high inflation in the United States cannot be underestimated.
In terms of time limit, this round of overseas high inflation is caused by short-term geopolitical conflicts, ultra-loose monetary policy brought about by the epidemic, energy crisis and other factors, as well as long-term carbon neutral constraints, ESG and de-globalization and other factors.
Structurally, the current round of high overseas inflation has both demand-side and supply-side factors driving up core commodity inflation.
The supply-side factors, such as geographic conflicts, lead to the dislocation of the global supply chain, which drives up commodity prices.
Demand-side factors include the lagging effect of ultra-loose monetary policies in the face of the epidemic in major economies led by the United States.
Although the U.S. consumer price index (CPI) fell to 8.2% in September after hitting a new high of 9.1% in June 2022, the U.S. core consumer price index (core CPI) remained at a high of more than 6.0% year-on-year. In addition, the US mid-term elections are imminent, and it is reasonable for the Fed to make relatively hawkish remarks in order to win over public opinion, but it is another blow to risk assets.
The three major U.S. stock indexes closed down collectively. The Nasdaq fell 3.36%, the S&P 500 fell 2.51%, and the Dow Jones fell 1.55%. The metal materials and software application sectors were among the top losers, and large technology stocks generally fell. U.S. bond yields continued to rise, with the U.S. 2-year Treasury bond yield rising sharply by 50 basis points and above 5.1%.
Inverted U.S. Treasury yields point to recession ahead
In terms of employment, non-agricultural employment in the United States will return to pre-epidemic levels in May 2022 after the epidemic, and relatively strong employment data has also supported the Federal Reserve to raise interest rates beyond expectations.
However, there are doubts about whether the strong U.S. jobs data will continue in 2023: First, the employment data is a lagging indicator relative to the economy. Second, there is a certain wage price spiral behind the strong U.S. employment data. The wage-price spiral is the phenomenon in which a shortage in the labor market causes wages and prices to rise in turn.
In a situation of high inflation, increasing wages is not a benefit but a side effect, and will push inflation even higher.
The great stagflation in the United States in the 1970s was mainly driven by the wage-price spiral.
But the current situation is different from that of the 1970s.
First, high interest rates increase financing costs and inhibit corporate investment activities and residents' purchasing power. Second, high inflation has led to negative growth in the real disposable income of companies and residents, putting pressure on cash flow.
At present, the fixed rate of 30-year mortgage loan in the United States has exceeded 7%, and the sales of new homes in the United States have continued to decline. U.S. job vacancies fall to normal levels as demand declines. The inversion of U.S. 3-month and 10-year U.S. Treasury yields at the end of October 2022 also indicates that the U.S. economy will enter a recession in the future.
In general, the duration of high inflation in the United States cannot be underestimated, nor can we be overly optimistic about the US economy. The Fed is in a state of "impossible triangle", which is to fight inflation, stabilize growth, and prevent recession.
Against the background that the general direction of high inflation in the United States will fall back next year and the economy is expected to enter a recession, the arrival of the inflection point of the Fed's interest rate hike still depends on the speed of inflation and the degree of economic recession.