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Which Fed Rate Hike Will Finally Break the Economy’s Back?

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As expected, the Federal Reserve nudged interest rates up another 25 basis points Wednesday. The federal funds rate now stands at 2.25%.

The Fed offered up a rosy outlook for the US economy, projecting growth will continue for the next three years. The central bank also dropped the phrase, “the stance of monetary policy remains accommodative” from its statement. As an analyst told Reuters, “It does seem to potentially indicate they believe monetary policy is becoming less accommodative and getting more toward that neutral rate.”

In his podcast analyzing the Fed’s current podcast, Peter Schiff echoed this sentiment – noting that 2% is awful low for a neutral rate.

I mean, 2% in my mind is still a highly accomodative monetary policy, especially when the annual rate of inflation, even the way the government measures it, is above 2%, because that means you still have negative rates of interest – negative real rates. And how could you describe negative real rates as anything by accommodative? But apparently, that’s how the Federal Reserve chose to describe it’s current monetary policy.”

During the Q&A period, Federal Reserve chair Jerome Powell said we shouldn’t read anything into the removal of that phrase and insisted policy remains accommodative. Peter said that doesn’t make any sense.

I mean, if he didn’t mean anything by removing the word, if removing the word had no significance whatsoever, why remove it?”

Peter said he thinks the removal of that phrase is significance and if validates what he’s been saying: the Fed is near the end of its tightening cycle.

If 2% is no longer considered stimulative, then how much more can the Fed hike rates before it thinks rates are too high? I mean, maybe two-and-a-half percent, which would be two more rate hikes.”

Given this, the markets should be factoring in the next easing cycle, which can’t be too far off.

One reporter ask Powell if the central bank would just keep raising rates until something in the economy breaks. Powell answered that there was no reason to worry about that because the Fed is moving slowly. It will have plenty of time to adjust its policy if there are any signs of trouble. Peter said that’s the same kind of hubris we saw from Alan Greenspan leading up to the 2008 crisis.

At the time, the increases were a quarter of a point at a time. Granted, the Greenspan Fed was raising rates every time it met, so the pace was a bit faster. Nevertheless, it was still viewed as the same kind of “measured pace” we’re seeing today. Peter said at the time he was critical of this policy because it was leaving rates too low for too long.

Well now, rates are being raised at an even slower pace now than they were then, and you have the Fed confident that simply because they raised rates slowly that somehow the markets and the economy will be insulated from any ill-effects, and they will have ample time to judge the effects and maybe adjust their policy. But what’s happening is this is simply lulling everybody into a false sense of security. Yes, had the Fed moved more aggressively at raising rates, they would have pricked the bubble sooner. They would have brought on the recession sooner and the problems would have been more obvious to everybody. But because they are proceeding as slowly as they are, they’re simply allowing the problems to get that much bigger before the bubble finally bursts.”

When the bubble does pop, it’s not going to be a “soft landing.” As Peter put it, it will be a crash landing.

Peter noted all of the optimism about the economy out there. He even touched on the high consumer confidence number, echoing what we said – it’s not necessarily a good indication of the actual state of the economy.  Sure. People are confident. But as Peter said, they’re going to be disappointed.

The real question is which rate hike will finally break the economy’s back?

The Fed has been playing with fire all along with these rate hikes, and one of these hikes is going to be like that proverbial straw that breaks the camel’s back. Of course, you never know which straw is going to break the camel’s back until you put it on the camel. But of course, once the back is broken, well that’s it. I mean, you destroy the camel. And so Powell somehow thinks that if he breaks the camel’s back with one straw just because he’s been putting the straws on very slowly that somehow he’s going to be able to bring in the medics and nurse that camel back to health quickly enough so that it doesn’t matter. Believe me. You break your camel’s back, it’s all over for that camel.”

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