- Rising interest rates globally threaten a recession and a possible depression, an expert says.
- As the hawkish stance continues, the Fed sets the tone for European Central Bank.
- Upcoming meetings will shed more light on the market expectations.
YEREVAN (CoinChapter.com) – The Covid-19 pandemic and the subsequent liquidity influx did a number on the global economy, the consequences of which are not yet over. The US Federal Reserve and the European Central Bank (ECB) signal more interest rate hikes ahead, despite the plummeting inflation.
Thus, market participants can expect a possible credit crunch and brace for a battle against recession.
ECB and Fed continue to push interest rates as inflation recedes – why?
Since early March, the banking crisis raging in the US created two opposing incentives for the Fed. In detail, after the Silicon Valley Bank collapse, the lawmakers created an emergency fund to save the banking sector, which, Biden’s administration claimed, was not a bailout.
Thus, the Fed had two roads to take: prioritize the battle against inflation and risk sending the economy into a recession, or pivot on the interest rate hikes, inject more liquidity to aid the banking crisis, and lose the grip on inflation.
The Consumer Price Index in the US rose 0.2% in June after increasing 0.1% in May but stood at 3% year-over-year. However, the Fed will most likely raise the interest rates by another 0.25% during its 11th revision on July 26, which begs the question, why would the government risk a recession so close to its 2% inflation goal?
According to senior Bloomberg commodities analyst Mike McGlone, a recession and even a possible depression are still looming. He asserted that the recent stock market uptrend should not elevate bullish spirits, and market participants shouldn’t ignore signals from the Fed.
The bottom line is, don’t fight the Fed. And everybody does. And then beware of the general consensus which is ‘Oh once the Fed stops tightening, everything’s okay’. […] I see this is a silly stage in terms of the equity market. Yes, I’m very bearish on the equity market.
he said in a recent podcast.
The expert asserted that the world is facing a financial reset, possibly “the biggest in our lifetime.”
ECB is in deep trouble following the Fed
McGlone also noted that it’s naive to think the Fed has lost its global dominance. According to the expert, Europe and Asia watch the US market very closely and largely follow the trends set by the latter.
Meanwhile, Financial Times reports a sharp fall in demand for business loans in Eurozone banks. In fact, the demand has fallen to its lowest level on record, bolstering calls for the European Central Bank to abandon hints of further interest rate rises after its meeting this week.
Furthermore, the economic block entered a recession at the start of 2023, according to Eurostat, as ECB raised interest rates by 0.25% to 3.75% in June. This is the highest hike level since 2008. However, ECB plans to continue with another 25 bps hike on July 27.
In detail, tighter monetary policy is designed to constrain demand for credit and slow down the economy, putting the breaks on inflation. But economists said the rapid contraction of bank lending and gloomy economic outlook make the ECB less likely to commit to another rate rise in September.
Carsten Brzeski, an economist at the Dutch bank ING, agreed that the Central Bank should pump the breaks on hawkish policies.
This entire batch of negative macro data combined with the increasing risk of a full-swing credit crunch in the eurozone strengthens the case for a pause after Thursday’s meeting.
The International Monetary Fund (IMF) disagrees. “A further tightening of monetary policy in the near term would prevent much more costly measures later to bring inflation back to target.,” read a July 21 report.
The original shocks to energy and food prices that catapulted inflation above the target are dissipating. But inflation is still high, with prices in the euro area rising by 5.5% from a year earlier in June. Core prices—a more reliable measure of underlying inflationary pressures—were up by 5.4%.
GDP at risk
Notably, the region also suffered heavily from the Russian invasion of Ukraine, which has already entered its second year. The export-oriented economies of the Eurozone, which are heavily reliant on international trade, took a hit. Demand from key trading partners has waned, hampering their economic growth.
The International Monetary Fund‘s growth-at-risk metric, a measure of risks to global economic growth from financial instability, indicates about a 1-in-20 chance that world output could contract by 1.3% over the next year.
There’s an equal probability that gross domestic product could shrink by 2.8 percent in a severe tightening of financial conditions in which corporate and sovereign spreads widen, stock prices fall, and currencies weaken in most emerging economies.
read the April report.
According to IMF, shares of banks in major emerging market economies have so far experienced little contagion from the banking turmoil in the US and Europe. “Many of these lenders are less exposed to the risk of rising interest rates, but they generally hold assets with lower credit quality, and some have less deposit insurance coverage,” read the report.
More details will be available after the Fed’s policy meeting on July 26 and ECB’s analogous decision on July 27.
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