On November 2, U.S. Federal Reserve Chairman Jerome Powell said at a press conference right after raising the benchmark interest rate, “The Fed still has a way to go.” ⓒXinhua This year, the US central bank, the Federal Reserve, sent the following signal to the country and the world. ‘In the meantime, you guys have been hired a lot and received high wages. They consumed a lot and made high financial returns. Now you guys need trials.’ From mid-November, one more word was added. ‘Don’t get excited (just looking at the recent price index).’ It was a bit ridiculous, but the Fed’s position is very serious. No matter how much the market and the public, swayed by ‘short-term profits’, clamor for ‘stop raising interest rates’, they will steadfastly walk ‘my path’ (independence of the central bank). Chairman Jerome Powell spoke at a press conference shortly after raising the benchmark interest rate again on November 2nd. “The Fed still has a way to go.” This means that interest rates will continue to rise. The Fed has raised interest rates this year (2022) at the fastest pace in history (excluding the early 1980s). In March, the benchmark interest rate in the US was between 0.25% and 0.5%. After that, for just over seven months, the interest rate (usually adjusted by 0.25 percentage points at a time) was raised five times by 0.5 percentage points or 0.75 percentage points. 3.75-4.0% as of the end of November. The Fed is expected to raise its benchmark interest rate to the mid-5% range by the middle of next year. Some in the market believe that the scope and speed of the Fed’s rate hikes are too large and too fast. They are concerned that trying to control inflation could also control the economic system. But there are good reasons for the Fed’s wariness about inflation. In fact, it is because too much money is ‘laid down’ in the market. As the central bank’s ‘total assets’ expand, so does the ‘money in the market’. For every $1 increase in the central bank’s assets, that amount is ‘laden’ into accounts owned by private financial institutions. The size of the money supply is determined by how much financial institutions lend and borrow this money as ‘base’. The Fed’s assets expanded eight to nine times from mid-September 2008 ($995 billion), when the global financial crisis began in earnest, to mid-November 2022 ($8.6 trillion). It is the result of sowing money to stimulate the economy while experiencing unprecedented events such as the global financial crisis and the Corona 19 pandemic. However, the Fed would have been very terrified of this reality. This is because, in the words of Milton Friedman (an American economist who had a profound influence on mainstream economics), “Inflation is a monetary phenomenon.” Given the increased central bank assets, it could theoretically lead to unimaginable inflation. This year, the Federal Reserve, as if taking revenge on itself in the past, curbed the flow of money by sharply raising interest rates, and from last September began measures to collect ‘money in the market’ (quantitative tightening). It was an act to block ongoing inflation and at the same time eliminate future risks (hyperinflation). Fed rate hike, US inflation exports The Fed put pressure on private economic entities (households, corporations, and financial institutions) with its two weapons: rate hikes and quantitative tightening. They wanted financial institutions to lend, households to demand higher consumption and wages, and companies to refrain from investing. As a result, if unemployment rose and wages (considered the most direct factor in raising prices) stagnated or fell, inflation would be countered. The Fed’s monetary policy is of utmost concern not only to economic entities in the United States, but also to other countries. When U.S. interest rates rise and the global economic outlook becomes unclear, global investors are bound to rush into the dollar. Not only is it safer to hold your assets in US dollars rather than Brazilian real, Thai baht, or even Korean won, but the interest rates are decent. When demand increases, the value of the dollar rises, and the value of other countries’ currencies (versus the dollar) decreases. As a result, inflation in other countries also intensifies. This is because the economic agents of most countries transact with countries other than the United States with the key currency, the dollar. For example, in the past, if it was a $1 imported product, you could buy $1 at 30 baht and then pay for it. However, if you have to pay 40 baht for a dollar due to currency fluctuations, Thailand’s price rises (from 30 baht to 40 baht for a dollar imported). This is why the Fed’s interest rate hike is sarcastically called ‘US inflation export’. Economic entities in other countries also bear a greater burden on ‘debts borrowed in dollars and repaid in dollars (dollar-denominated debt)’. In the past, 300,000 baht was enough to pay off a $10,000 debt, but now it is necessary to raise 400,000 baht. Central banks respond to this situation by raising their interest rates. It means ‘It’s not as safe as the dollar, but I’ll give you a higher interest rate in return’. This is to prevent capital flight from the domestic currency to the US dollar and depreciation of the currency. However, a rise in interest rates depresses the country’s economy. Raising interest rates does not necessarily increase the value of the currency. Because that country is not America. After all, when interest rates and inflation rates rise together, the economic prospects of the country in question become more unstable. Fears of a foreign exchange crisis are growing. As such, the anxiety caused by the Fed’s rapid rate hike this year has been contagious on a global level and has grown in size. At this time, almost all economic agents become suspicious of their counterparties. ‘What if the money is taken away?’ Market interest rates rise, making it difficult to borrow even at high interest rates. In these moments, when someone actually fails to pay back, the entire market panics. A recent representative example is when Kim Jin-tae, Governor of Gangwon Province, virtually withdrew guarantees for 205 billion won of debt from Legoland, a theme park, and even companies with extremely high credit ratings, such as Korea Electric Power Corporation, were unable to borrow money. So, all economic entities were looking only at the Fed and US prices (related indicators). The Fed’s rate hike is due to inflation in the US. If inflation subsides, the Fed will also slow down its pace of rate hikes. That way, central banks in other countries will be less pressured to raise interest rates. The stock and real estate markets driven to the brink will revive, companies will resume their investments, and the risk of foreign exchange crisis in emerging countries caused by the ‘King Dollar’ will be resolved to some extent. These hopes were not in vain. As November rolled around, good news poured in. On November 10, the U.S. Department of Labor announced that the consumer price index (CPI: an indicator of price fluctuations of goods and services purchased by consumers) in October rose 0.4% from the previous month (September) (see). . This is a 7.7% increase compared to the same period last year (October) (see). The market went wild. The Nasdaq, which is centered on technology stocks, jumped 7.35% (based on the closing price) for one day on the 10th. One of the biggest gains on the NASDAQ ever. The currency values of the Japanese yen and the British pound also rose. Big or small, ‘inflation has risen’, but what is the reason for such an explosive reaction? This is because the rate of inflation has slowed down. Initially, the market predicted the CPI increase rate of 0.6% in October compared to the previous month (September), but the actual result was 0.4%. It was also the first ‘slope’ in eight months that the CPI increase rate (7.7%) compared to October last year fell below 8%. About a week later, on November 16, the October Producer Price Index (PPI: an indicator of the price companies actually receive in wholesale transactions) announced by the US Department of Labor compared to the previous month (September) was also lower than the forecast (0.4%). It was found to be 0.2% (refer to). Even at the beginning of the year, it was an indicator that was in the mid-1% range. The core inflation rate (indicative of price fluctuations in goods and services, excluding energy and food, which fluctuate rapidly. It indicates the basic trend of prices) also peaked at 6.6% in September (compared to the same period last year) and rose to 6.3% in October. % (predicted 6.7%) (see). The market was inflated with expectations that the Fed’s monetary tightening might be eased as the ‘tendency to rise less in price’ was confirmed as an indicator. Some large merchant financial companies, such as JPMorgan, have already claimed that US inflation peaked from August to September. It is said that the inflation rate will not immediately fall to the Fed’s target of 2% from next year, but the extent of inflation will continue to decline. On October 20th, JPMorgan wrote this in ‘Investment Prospect’. “We expect consumer price inflation (compared to the same period last year) to drop from 8.2% in September to 6.8% in December and 3.2% in September next year.” Possibility of a global recession But the Fed is spitting on the market’s smiling face. Shortly after the October Producer Price Index announcement on November 16, San Francisco Federal Reserve Bank President Mary Daly said, “I don’t know how fast the increase will be, but the suspension of the increase is not even being discussed. I think the base rate should be raised to 4.75-5.25%,” he said. This means that interest rates will continue to rise. Christopher Waller, director of the Fed, also emphasized that “we should not attach too much importance to a single price report (October indicator).” Director Waller’s remarks are significant. In fact, if you’re going to claim a ‘slowdown in inflation’ based on month-to-month indicators, last July was even more impressive. In July, compared to the previous month (June), the consumer price increase rate was 0% (0.4% in October), and the producer price increase rate was -0.5% (0.2% in October). The core inflation rate (compared to the same period last year) was 5.9% (6.3% in October). Even then, the market fueled optimism in anticipation of a policy shift from the Fed. But the Fed was stubborn. Indicators rose again. The flame of the asset market went out in vain without even being able to burn once. International organizations closely monitoring long-term trends in the world economy are also far from optimistic. According to the ‘World Economic Outlook’ of the International Monetary Fund (IMF) announced in mid-October, the inflation rate in developed countries will rise from 7.2% this year (10% for emerging and developing countries) to 4.4% in 2023 (emerging countries). 8.1%) is predicted to decline. It does not reach the 2% target of the Fed, but it means that it will calm down to some extent. However, even this figure is possible if the central banks of advanced countries, including the Fed, steadfastly push ahead with the current trend of raising interest rates. Of course, due to multiple interest rate hikes by central banks, the global economic growth rate will drop from 3.2% (estimated) this year to 2.7% in 2023. A global recession is highly likely. According to an interview with the Financial Times (October 11) by IMF Chief Economist Pierre Olivier Gurinchas, there is a 15% chance that global growth in 2023 will fall below 1% (2% or less is 25%). “Many people will suffer very, very much. 2023 looks set to be the darkest hour in global economic history.” However, the IMF argues in the report that it must be willing to bear this pain. Because you have to control inflation. “Catching inflation requires central banks to be determined to ‘stay the course’.” “We must not repeat the vicious cycle of ‘stop-go’ in the 1970s.” The Fed initially responded to global inflation by raising interest rates, but as the economy deteriorated, it eased its tightening policy. Then, as prices rose again, the inflation rate soared to double digits. This trend was only tempered when Fed Chairman Paul Volcker, who took office in the early 1980s, raised the US interest rate to 20%. The International Monetary Fund (IMF) believes that central banks can’t help it even if they shrink the economy by raising interest rates too much. In other words, if inflation is eased while inflation has not been completely controlled, inflation could actually worsen, requiring a higher interest rate hike. The leading global economic magazine, The Economist (November 13), criticized irresponsible optimists for throwing the market into confusion by presenting only ‘rosy data’ to support the opinion of ‘slowing down inflation’. Rather, the November 15 article argues that “the inflation virus has spread, and the outlook for the world economy has actually gotten darker in recent weeks.” “In the US, inflation has slowed slightly due to lower energy and food prices, but ‘inflation surprises’ are common in other countries.” Britain’s inflation rate released on November 16 came in at 11.1%, beating expectations. In addition, The Economist predicts that the economic recession will start in earnest along with the spread and deepening of inflation. The rationale is that economic indicators measured by large merchant financial companies, such as Goldman Sachs and JPMorgan, deteriorated or showed a downward trend in October. However, price-related data vary. Interpretations of this may vary. The future is uncertain for everyone. The Economist criticizes the ‘optimists’ for their data choices. But optimists can also counter that “pessimists” like The Economist are defending the Fed’s stubbornness (rising rates) by picking and interpreting only the indicators that suit their tastes. Or, like Nobel Prize-winning economist Joseph Stieglitz, a professor at Columbia University, there are those who claim that the Fed is completely mistaken about the cause and remedy of inflation. Of course, Professor Stieglitz is not an optimist. On November 10, the US Department of Labor reported that the consumer price index rose 0.4% in October from the previous month. ⓒAFP PHOTO Powell’s frequent reference to ‘inflation in the 1970s’ For the time being, everyone’s attention will be focused on US price indicators for November, which will come out in mid-December. If November’s indicators move in the same direction as October, the Fed will be challenged to change its policy stance. But even if the Fed judges that ‘inflation is actually slowing’, will it reverse its rate hike stance? Most likely not. “Inflation in the 1970s” is a topic that Fed Chair Powell often mentions. Let’s listen to the remarks at a speech hosted by the Federal Reserve Bank of Kansas on August 26th. “As prices rose in the 1970s, the prediction that ‘prices will rise further’ (expected inflation) took root in the psychology of households and businesses. As prices rise, more economic agents expect higher prices, and this belief is reflected in wages (workers) and pricing (businesses).” If they believe that prices will rise in the future, workers will demand higher wages. Businesses will raise prices to pass on the expected increase in wages and intermediate goods costs to consumers. The belief that ‘prices will rise’ itself raises future prices. In this speech, Chairman Powell makes a significant mention of former Chairman Paul Volcker. Volcker is the man who ‘violently’ raised interest rates to the point that households and businesses couldn’t even dream of raising prices. Chairman Powell’s Fed would rather spread the expectation (expectation) that ‘a serious economic recession will come with an interest rate hike’. For that to happen, even if inflation is actually slowing down, the Fed can’t give up its stance that it has to raise interest rates for a while longer. This is because as soon as ‘the Fed’s abandonment of the keynote’ hits the news, the market will flare up and resume inflation. With the Fed at the forefront, central banks in developed countries are highly likely to continue pushing for interest rate hikes in 2023 to control inflation. The cost of price stability is a recession and financial market turmoil. As the painful economic downturn continues, from time to time, major economic players such as certain countries, corporations, and financial institutions may fall into a difficult position to pay their debts or become the source of vicious rumors and drive the market into panic. As predicted by the IMF, the world economy is likely to face the “darkest hour” in 2023.
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