US Fed interest rate hike dilemma: Damned if you do, damned if you don’t

“You need to go and kill that beast,” IMF’s European department director Alfred Kammer said in Stockholm this Friday, AFP reported. He went ahead saying that the ‘history is littered’ with examples where “you will need to have a second attempt” at bringing down inflation, “inflicting more economic pain”. Anyways, it is an established fact that “painless disinflation is a myth” but what matters is how far the misery was created and how far can the painful remedy go. The US Federal Reserve as widely expected has raised interest rates by 0.25 per cent on 3 May, this is the tenth hike straight. The US Fed has moved up federal fund rates from near-zero to the range of 4.75 to 5 per cent within a span of a year. Also, the European Central Bank (ECB) as well as other central banks in Europe have since last year followed the Fed in hiking interest rates to rein in inflation. In this context, we must remember, on 15 March 2020, US Fed in an “emergency move” dropped interest rate “essentially to zero” and launched a massive “$700 billion quantitative easing programme” to shelter the US economy from the impacts of the coronavirus. The US is a “market economy” where the Smithian “invisible hand” of the market is supposed to guide the economic policy with the least indulgence from the state’s part. Yet, the US Fed, otherwise a preacher of neo-liberalism and untampered monetary policy, has a “dual mandate” under Federal Reserve Act to ensure maximum employment and stable prices. And, under these circumstances, considers its prime responsibility to counter inflation in its home country. Needless to say, US Fed policies largely define the broader picture of the whole Euro-American economy in particular and the world at large, however, its preferences may or may not be in conformity to it. The Fed is fighting tooth and nail to bring down the inflation to the targeted 2 per cent as the economic superpower saw consumer prices hitting a 40-year high last year. Even now this “beast” seems to have not got tamed as the inflation in the US remains stubborn with two key inflation gauges showing persistent price rises in recent months. Read However, the situation in Europe seems to be a bit relenting as the “inflation in the 20 countries that use the euro currency slowed to the lowest level in a year as energy prices dropped, but food costs were still on the rise, keeping pressure on the European Central Bank to hike interest rates further,” reported AP. But even this does not apply to countries like Britain where consumer price inflation fell only marginally to 10.1 per cent in March from February’s 10.4 per cent. Economics is the “study of deficiency”, a zero-sum game. Inflation targeting has a direct impact on growth, particularly in a mercantile economy, the economy we live in, pulled up by growing demands and ever-expanding endeavours. Persistent rate hikes will affect the same. Recently, the US has witnessed the collapse of Silicon Valley Bank, US’ second largest banking failure, followed by the subsequent Signature Bank failure, coercing regulators to take over the bank to protect the interests of the customers and the stability of the financial system, and remember the US is a “free-market economy”. Even the situation seems to be serious in the case of First Republic bank, which was also nearing collapse, but was sold to JPMorgan Chase & Co on Monday, as the US regulators had announced seizure of the bank last weekend. This whole mess has had a spillover impact on the economies on the other side of the Atlantic, José Manuel Campa, the head of the European Banking Authority, told a German newspaper that European banks remained vulnerable following the demise of Silicon Valley Bank and subsequent emergency rescue of Credit Suisse by UBS. “The risks in the financial system remain very high,” he said, reported CNN. The Trans-Atlantic world is facing a liquidity crisis at a time it needs it the most. Different from the so-called “primitive economies” of the Third World, services-based Western Knowledge societies require proper funding for innovation and expansion. The mass sacking that the US is witnessing - as the big-tech companies have gone through the largest layoffs by them ever in history, and which they will also be doing in Europe despite relatively stricter labour laws in place - is much a result of this ‘painful’ disinflation process. This will further affect the expendability of the salaried-middle class upon whose demands the Western economies pull through. As demands reduce, inflation may come down, but growth will be affected perhaps more than what seems to be proportional. In fact, a policy document from the UN Economic Commission for Europe had rightly professed that economic growth will be slow for this year only to rise in the upcoming year, with the duo of rising interest rates and high inflation being the core contributors, apart from geopolitical factors like the Russia-Ukraine war, which the US-led West doesn’t seem very anxious to resolve. Refer Looks like the entire “free-world”, which was drastically hit by COVID-19, became so much ‘accommodative’ in its stance that it forgot that the pandemic boom will cause the cyclic post-pandemic bust. And, to avert this, good genius of financial engineering would be required, in which perhaps Fed-led Western central banks and macroeconomic institutions like IMF weren’t very successful. Dovish policy during the pandemic created an economic bubble for the tech and innovation sector, despite being relatively less affected as compared to the other sectors of the economy, this led to mass hiring, but when the bubble burst, after being pinned by the rate hikes, it resulted in economic bloodshed. While the other sectors of the economy faced the domino effect of something that did not primarily benefit them. It resembles closely Don Quixote’s stance, also, as aforesaid, if the US believes in free-market and Adam Smith’s invisible hand it should let the market play its legit role. As the entire Euro-US-centric world faces this double trouble of stagflation, it should teach the teachers not to compromise with the principles they preach to the world, or, else they will land in a situation in which they are now – damned if you do, damned if you don’t. Read all the  Latest News,  Trending News,  Cricket News,  Bollywood News, India News and  Entertainment News here. Follow us on  Facebook,  Twitter and  Instagram.