The Fed has indicated it may boost rates six more times this year. Some economists worry that could cause a recession.
The Federal Reserve raised interest rates this week for the first time since 2018, and the central bank may just be getting started.
The median forecast of Fed officials calls for six more rate hikes this year, assuming each increase is 25 basis points.
It’s inflation that has the Fed moving, of course, with consumer prices soaring 7.9% in the 12 months through February.
The Russia-Ukraine war is likely to add to that inflation, as commodity prices have jumped since it began. Oil has gained 12% since Russia invaded Ukraine Feb. 24, though it’s down from its highs.
So the Fed certainly has reason to keep tightening. But that’s a problem for the economy. If the Fed tightens too hard, it risks recession. Many economists see a serious danger of recession ahead.
The central bank is rarely able to engineer a soft landing when raising rates to stamp out inflation, says Harvard economist Larry Summers, who served President Bill Clinton as Treasury Secretary.
The Odds of Recession
“We look at quarterly data going back to the 1950s and calculate the probability that the economy goes into a recession within the next 12 and 24 months, conditioning on alternative measures of inflation and unemployment,” Summers and his research analyst Alex Domash wrote in a report.
“We find that given the current inflation level of nearly 8% and unemployment below 4%, historical evidence suggests a very substantial likelihood of recession over the next year or two.”
“When average quarterly inflation rises above 5%, the probability of a recession over the next two years is above 60%,” the duo said. “And when the unemployment rate drops below 4%, the probability of a recession over the next two years approaches 70%.”
Unemployment stood at 3.8% in February.
Renowned economist David Rosenberg, of Rosenberg Research & Associates, says a recession may come as early as this summer.
“The Fed hiking rates usually leads to bad things for the economy,” he told MarketWatch. “The Fed’s ability to guide the economy into a slowdown without generating a contraction is a one-in-four bet, historically.”
The only way the Fed can quell inflation is through recession, Rosenberg said. “It’s going to take demand destruction to get inflation down,” he said.
Sign of Rate Cut in 2024
One factor typically associated with a recession is an inverted yield curve, meaning short-term interest rates are higher than long-term rates. The three-year Treasury yield recently totaled 2.16%, surpassing the 10-year yield of 2.15%, meeting that condition.
When there’s a recession, of course, the Fed lowers interest rates to jumpstart the economy. Already, traders in financial markets are pricing in rate cuts for 2024.
The implied yield on December 2024 eurodollar futures recently totaled 2.39%, or 28 basis points below the yield of contracts from December 2023, Bloomberg reports. That means Eurodollar traders are betting on a Fed rate in 2024.
