For almost every country in the world, Corona has caused a threatening collapse in their economy. The Covid-19 recession was not only particularly difficult, it was also the shortest since reliable macroeconomic statistics were available. In the United States, it lasted for two full months, according to the National Bureau of Economic Research (NBER) in Washington. It ended in April 2020. This has helped American and European governments to take on massive debt and thus secure demand and jobs. The new President Joe Biden wants to take the opportunity to invest trillions of dollars in the renewal of infrastructure in the United States and ensure employment for the greatest number of Americans. And the Fed has supported the recovery with unprecedented cheap money. Last August, he decided to aim for an “average” inflation rate of 2.0% going forward – significantly higher than the previous target of “below 2.0%”.
But now that the US economy is growing rapidly again, the question arises: Could it be that the Fed is now too generous? And isn’t a course correction overdue to keep inflation from spiraling out of control?
The Federal Open Market Committee (FOMC), the governing body of the Fed, will discuss these issues on Wednesday and Thursday of this week. Financial market experts are confident that the Fed will neither hike policy rates (currently between zero and 0.25%) nor cut the bond buying program. As part of this program, the Fed purchases $ 80 billion in government bonds and $ 40 billion in mortgage bonds each month, pumping money into the economy. However, it will be interesting to see how members of the Free Market Committee discuss the matter and which of them appear in the official statement after the meeting. Perhaps then it will be possible to read in the future a careful correction of the course.
Semiconductor delivery bottlenecks burden the economy
Some figures can be quite unsettling. In June, consumer prices in the United States rose 5.4% from the same month last year, the largest increase in 13 years. The causes are increased demand but also supply bottlenecks in many sectors, for example in the semiconductor industry. Fed chief Jerome Powell admitted two weeks before Congress that “inflation was higher than expected and a little more persistent.” Nevertheless, he sees the pressure on prices as a temporary phenomenon.
There are certainly arguments for Powell’s serenity. For example, the evolution of inflation expectations. Economists consider this to be relevant because the developments people expect in the future influence their actions today. According to statistics regularly released by the University of Michigan, American consumers estimate that inflation will be 4.8% in one year. In five to ten years, however, it should only be 2.9%.
On the other hand, the cheap money policy means that mortgages are very cheap. As in Germany, this leads to a boom in property prices. The S&P Case-Shiller Index for single-family homes rose 14.6% in April – the largest increase in three decades. This will create social problems as many low-paid workers can no longer afford their own housing. And if interest rates were to rise again, it could lead to a financial crisis. In June, however, against all odds, 6.3% fewer homes were sold in the United States, which may indicate a normalization of the market.
What lessons can we learn from history?
In debates about good Fed policy, the question is always what lessons can be learned from history. On the one hand, there is the experience of the 2008 financial crisis, in which the Fed flooded the economy with cheap money and thus prevented another global economic crisis. On the other hand, there is the memory of the stagflation of the 1970s, when the state got into massive debt to be able to finance both the Vietnam War and generous social programs, and the Fed supported it. . Stagflation – the combination of rising prices and high unemployment – could not be eliminated until 1979 with shock therapy, which ultimately brought conservative Ronald Reagan to the White House. Significantly, it was not a conservative but the progressive Larry Summers – Secretary of the Treasury under Bill Clinton and adviser to Barack Obama – who warned in the spring of a repetition of the 1970s. He did not criticize the Fed, however. , but asked the Washington Post if President Joe Biden was not taking on too much debt and thus setting in motion the inflationary spiral.
But now the Fed will be notified first. John Vail, chief strategist at Nikko Asset Management, an asset manager, said: “Markets expect a slight pullback from the extreme ease. Then the details will be interesting.