The financial market thinks the Fed will come to the rescue and cut rates if there is a recession, but many economists say this view is misguided.
If the economic storms get more difficult, traders and investors seem to think the Federal Reserve will be like a lifeguard and rescue all swimmers from the rip tides. Economists see such confidence as misplaced given the high inflation environment.
Traders in derivative markets have partly walked back rate-cut expectations, but still see the fed-funds rate — now at 5% to 5.25% — falling back to above 4.5% by year-end. If the Fed turned around and cut rates like the market is pricing in for 2023, it would create “the worst of all possible worlds,” Brusca added.On Monday, Richmond Fed President Tom Barkin tied the strategy of holding rates high to research from his regional bank on the lessons of the 1970s.
Bond and stock-market investors alike have convinced themselves that the Fed will cut rates quickly this year, said Ethan Harris, head of global economic research at Bank of America Securities. “You really have to go back to the 70s and 80s to understand what they’re up to. Today is a mini-version of that and recent business cycles are not very informative for what the Fed is doing,” Harris said.
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