If the Fed gets it right, we can enjoy non-inflationary growth, but markets will be volatile, the JPMorgan CEO said.
JPMorgan Chase Chief Executive Jamie Dimon says that the Federal Reserve may have to raise interest rates higher than investors and economists forecast.
In a letter to shareholders, he also said the central bank should ignore the market volatility that accompanies these rate hikes, as long as it doesn’t affect the economy.
“I do not envy the Fed for what it must do next: the stronger the recovery, the higher the rates that follow,” Dimon said. “I believe that this could be significantly higher than the markets expect.”
The Fed began its rate hikes last month, with a 25-basis point move. And many in the market expect a 50-basis point increase next month. Interest-rate futures traders price in a 71% probability of at least 225 basis points more of rate increases this year.
“If the Fed gets it just right, we can have years of growth, and inflation will eventually start to recede,” Dimon said. Economic growth totaled 5.7% last year, and consumer prices soared 7.9% in the 12 months through February.
“In any event, this process will cause lots of consternation and very volatile markets,” he said. “The Fed should not worry about volatile markets unless they affect the actual economy. A strong economy trumps market volatility.”
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Stocks have bounced down and up this year, falling 12% from the beginning of the year through March 14 and then rebounding 9% since then.
“This is in no way traditional Fed tightening,” Dimon said. “And there are no models that can even remotely give us the answers.” Models miss out on “major catalysts, such as culture, character and technological advances,” he said.
“And in our current situation, the Fed needs to deal with things it has never dealt with before (and are impossible to model), including supply chain issues, sanctions, war and a reversal of QE [quantitative easing] in the face of unparalleled inflation.” Quantitative easing refers to bond purchases by the Fed meant to increase the money supply.
The Fed Must Be Flexible
Of course, the Fed needs to form its policies around the data that arises, Dimon said.
“However, the data will likely continue to be inconsistent and volatile — and hard to read. The Fed should strive for consistency but not when it’s impossible to achieve.”
The central bank must be adaptable, Dimon said.
“One thing the Fed should do, and seems to have done, is to exempt themselves — give themselves ultimate flexibility — from the pattern of raising rates by only 25 basis points and doing so on a regular schedule,” he said.
“A Fed that reacts strongly to data and events in real time will ultimately create more confidence. In any case, rates will need to go up substantially. The Fed has a hard job to do so let’s all wish them the best.”
The Fed’s move to quantitative tightening, which means selling some of its bond holdings, from quantitative easing “will cause a massive change in the flow of funds in and out of Treasury bonds and, therefore, all securities,” Dimon said.
“This massive change in the flow of funds … is certain to have market and economic effects that will be studied for decades to come. Our bank is prepared for drastically higher rates and more volatile markets.”
