In a note published on July 8, 2022, analysts at Bank of America said that the Federal Reserve must induce a recession to fight rising inflation. Former Treasury Secretary Larry Summers expressed a similar view while speaking at the Economic Club of New York on July 13, 2022, saying, “I think it is unlikely—very unlikely—that we will see inflation come down to target range without a significant economic downturn.” Similar predictions are being made by some market analysts.
Inflation continues to rise.
The Consumer Price Index (CPI) rose 9.1% in the 12 months ending June 2022 according to data released by the Labor Department on July 13, 2022. The Wall Street Journal reports this as the fastest increase since November 1981. On July 14, 2022, the Bureau of Labor Statistics reported that a different inflation gauge, the Producer Price Index (PPI), rose 11.3% in the 12 months leading up to June 2022. This is the second highest reading in the Index’s history.
Consumer predictions of future inflation follow this trend. Consumer expectations for where inflation will be one year from now climbed to a record high of 6.8% in June, according to a Federal Reserve Bank of New York survey published July 11, 2022.
The Federal Reserve has responded aggressively to this rise in inflation.
On June 15, 2022, the Federal Reserve raised interest rates 75 basis points, or .75%. This is the largest interest rate hike since 1994. Money market traders are expecting an equally large rate hike later in July, and on July 14, 2022, Fox Business reported that “the dismal June inflation report has some Wall Street economists betting that the Federal Reserve will approve a historic 110-basis point interest rate hike in July as policymakers race to tame runaway consumer prices.”
Actions taken by the Federal Reserve to combat inflation have previously resulted in a recession. Paul Volcker, Federal Reserve chairman from 1979 to 1987, is often credited by economists as having stopped rapidly rising inflation during the 1970s with hawkish monetary policy such as aggressive rate hikes. These policy decisions sparked the recession of 1981–1982, a downturn the Federal Reserve’s own history archive characterizes as “the worst economic downturn in the United States since the Great Depression.”
Analysts say the Federal Reserve’s response to inflation could lead to a recession.
Market experts have voiced concerns over the Federal Reserve’s response to the latest inflation, saying it will lead to a recession. After the release of June’s CPI data, Liz Ann Sonders, chief investment strategist at Charles Schwab, told CNBC reporters, “There’s no spinning this, other than the Fed has to get more aggressive near-term and crush demand. That cements a recession now.”
Federal Reserve Bank of Kansas City President Esther George, who cast the sole vote opposing the central bank’s large rate rise in June, says she is worried that the hawkish direction of the Federal Reserve will have a negative impact on the economy. In a speech text, George said she is “mindful of how the rate of change in tightening policy can affect households, businesses, and financial markets particularly during a time of heightened uncertainty.”
If these predictions come true, high inflation may not stop without a recession. Portfolio holders may wish to take actions to reduce risk exposure to both market factors.
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