With the Federal Open Market Committee set to meet for the first time since its summer recess, all eyes are on the Federal Reserve. Markets are expecting another 75 basis point rate increase, but a 100 point rate increase can’t be ruled out. But as the Fed and other central banks gear up to fight against inflation, the fear that this inflation fight may cause a recession is growing.
The Fed Isn’t Alone
Inflation isn’t a problem that’s limited just to the United States. Central banks around the world ran their printing presses in overdrive in 2020 in response to the lockdown-caused recession. And as a result, prices are rising everywhere.
Not a country in the world has remained unaffected by this rampant inflation, and central banks are now doing their utmost to try to raise rates and rein in inflation in an effort to keep it from rising out of control. They all seem to be playing from the same playbook, which means that if one of them fails, it’s very likely that all of them will fail.
Fed Chairman Jay Powell is trying to play the role of a modern-day Paul Volcker, and has tried to make it clear that the Fed is willing to risk a recession in order to get inflation under control. But due to his previous inability to stick to monetary tightening, markets haven’t believed him. And with the federal funds rate still at only 2.5%, who can blame them?
Even a 100 basis point increase this week would only bring the federal funds rate to 3.5%, hardly high by any stretch of the imagination. And with inflation still at 8.3%, it’s going to take a lot more than that to get inflation back under control.
When Volcker decided to tackle inflation in 1979, it took pushing the federal funds rate well above the rate of inflation in order to get things under control. By that measure, the federal funds rate should be 10% or more right now in order to tackle inflation. But even with successive rate increases this year, we can’t expect the federal funds rate to get anywhere close to that level this year.
The Fed knows that trying to push interest rates that high would cause massive upheaval in the economy, with companies and households having gotten so used to low interest rates for so long. But that might be just what has to happen in order for things to get back to normal.
Is the Money Supply Telling Us Something?
Inflation is a monetary phenomenon, with an increasing money supply resulting, all other things being equal, in higher prices. Money supply figures increased massively as the Fed created money out of thin air in order to finance the US government’s fiscal policy response in 2020.
The rate of growth of the M2 money supply increased dramatically as well, with the year over year increase peaking at over 27% in February of 2021. And while that rate of annual growth has fallen back to more reasonable levels in recent weeks, as the M2 money supply has largely stopped increasing, official inflation figures as measured by CPI have yet to return to normal.
Trying to gauge the Fed’s effectiveness at combating inflation and to determine which way inflation is heading is going to require looking at several different data points. But with such a pronounced lag between the jump in M2 and the onset of major price increases, it could be several more months before we’re out of the woods.
With the US economy having contracted now for two consecutive quarters, and with increasing indications from a variety of sources that the future of the economy looks bleak, if the economy isn’t in recession already it very likely will be soon. And the Fed’s tightening of monetary policy could end up making that recession worse.
You’ll want to keep your eyes on money supply figures over the next few months to see how money supply growth or lack thereof might presage inflation figures. But if the money supply starts to decrease, it could indicate that the Fed’s tightening of monetary policy is finally having its intended effect.
How Recession Could Affect You
Of course, no one actually wants to see a recession. Recessions harm not only those who are fiscally irresponsible, but those who are fiscally responsible as well. No matter how you have positioned yourself financially, you will feel the recession’s effects.
Inflation has begun to erode away the value of the savings of those who hold cash or cash-equivalent investments. And with inflation rates exceeding the yields of many bond instruments, even bond investing isn’t a guaranteed way to outpace the rate of inflation.
If a recession hits, the big fear is that stocks will take a hit. And the worse the recession is, the worse that effect could be.
During the 2008 financial crisis, markets lost over 50% of their value. And some investors lost even more than that. Given how large a bubble has been blown in the aftermath of 2008 with the trillions of dollars of quantitative easing the Fed undertook, it wouldn’t at all be surprising to see the next crisis surpassing the losses of 2008.
Many people back then who watched the investments they had spent years accumulating watched in horror as their retirement funds dried up. But many also watched gold and silver break free from the cycle of loss and march towards record highs.
That’s one reason so many people have decided today to start buying gold and silver, to protect themselves and their assets against the potential for catastrophic losses during the next recession. During the same period that markets lost over 50% of their value, gold gained 25%. And if gold provides that same protection during the next recession, the decision to purchase gold could have been well worth it.
With so many options available to invest in gold, now is the time to start preparing to make sure that your finances are in shape and protected before the next recession occurs. Don’t be left unprepared and unprotected. Call the precious metals experts at Goldco today to learn more about how you can protect your finances with precious metals.