Federal Reserve

The Fed Raised Rates Again: What Next?

rising interest rates

To no one’s surprise, the Federal Reserve decided to raise its target federal funds rate at last week’s Federal Open Market Committee (FOMC) meeting. But that decision raised more questions than answers. The most important one that most people want to know is, will the Fed keep hiking rates?

A few weeks ago it seemed as though most market watchers expected the Fed to hike once or twice more this year before coming to a hiatus. But last week’s rate hike raised questions about whether the Fed might not make even further hikes. So what might the Fed end up doing?

No Cause for Cuts

Certainly the language from last week’s FOMC statement didn’t make it seem as though a rate hike pause was anywhere in sight. And with inflation coming down and unemployment still low, there’s really not much impetus for the Fed to pause its hikes, and certainly not to cut rates. Fed Chairman Jay Powell himself threw cold water on hopes for a rate cut, stating that that wouldn’t happen this year.

Many market watchers now are wondering whether there might not be even more rate hikes than forecast this year. The next FOMC meeting in September is considered a live meeting, one in which rate hikes are back on the table, and it’s not inconceivable that subsequent meetings could see even further hikes.

The federal funds rate right now is the highest it’s been since 2001, and it could go even higher. A rate of 6% by the end of the year isn’t out of the question. But one question many people have is how these rate hikes are going to impact markets.

Stock Markets, Gold, and Interest Rates

According to most conventional wisdom, rate hikes are supposed to be bad for stock markets because they depress economic activity. Rate cuts and quantitative easing are supposed to be good for markets because they stimulate economic activity through an injection of monetary stimulus.

That’s why it’s curious to see how markets have reacted to the Fed’s round of rate hikes. Yes, stock markets had a bad year last year, possibly in reaction to the rate hikes, but this year markets have largely seemed to shrug that off. Even further rate hikes aren’t spooking markets, who apparently see the rate hikes as a sign that the economy is still going strong and isn’t in need of monetary support from the central bank.

Similarly, gold is supposed to be impacted negatively by interest rate hikes, in part due to the fact that rising interest rates make bonds and other interest-earning assets more attractive than gold. But rising interest rates and tighter monetary policy also drain liquidity from markets, leaving fewer funds in markets that can chase after gold.

Yet, despite those headwinds, the gold price has been doing pretty well this year. At one point gold was nearing its all-time high once again, and the gold price seems to want to trade between $1,900 and $2,000 an ounce right now. If the economy inches closer to recession, however, that gold price could start to rise again.

What Could Drive Markets

Most people today hope or expect the Fed to resort to cutting interest rates and injecting money into the economy. Those who hope for it want to see a return to the days of easy money, in which markets were flooded with liquidity and interest rates were nearly zero.

Those who expect the Fed to eventually cut rates foresee the US economy continuing to stagnate and fall into recession, at which point the Fed will have to step in and cut interest rates in order to ameliorate the negative impacts of a recession. Or for some people who are more bullish, they foresee the rise in interest rates causing the economy to slow but not to fall into recession, something which they expect the Fed to counter with interest rate cuts and monetary easing.

So if neither gold nor stock markets seem to have been negatively affected thus far by rising interest rates, what effect would cutting interest rates have?

If the Fed’s interest rate cuts come as a result of the economy falling into recession, it doesn’t mean that the gold price will start falling all of a sudden. After all, gold is a trusted safe haven asset and store of value. And as we saw in the aftermath of the 2008 financial crisis, gold demand rises during times of economic crisis.

What we could see, however, is an initial fall in the gold price during the early stages of the recession. While gold is often thought of as a countercyclical asset that does well when stock markets don’t do well, that doesn’t mean that gold and stocks can’t rise and fall at the same time.

In 2008 we saw the gold price hit new highs early in the year before falling about 30% at the same time that stock markets were plummeting. It seemed as though all assets were falling in lockstep as panicked investors and firms fled the market and tried to drum up cash.

That’s not to say that the same thing will happen during the next recession, but it wouldn’t be surprising if it did. Eventually gold decoupled from markets in late 2008 and began to rise again, with gold gaining 25% during the same period that markets lost more than 50% of their value. And gold went on to set all-time highs, making many people wish that they had had the foresight to buy gold sooner.

Protecting Your Wealth With Gold

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