7 of the Fed’s 8 Rising Rates Periods (1955-present) ended in Recession in the US

The US Federal Reserve has already raised its lending rate by 75 basis points over the past two months. Money markets anticipate further increases of at least 200 basis points by the end of 2022. The European Central Bank (ECB) has announced the end of its government bond-buying program in the third quarter of 2022 and a gradual increase in interest rates thereafter.

It is a fact that the period of low interest rates is over, as global inflation has skyrocketed to the highest levels in 40 years. The problem is not temporary, as the Central Bank administrations used to say at the beginning of the year. Rising prices of energy, agricultural products and metals pass into the core of inflation, as it leads to generalized price increases in all categories of products and services. The core of inflation will remain high and will continue to occupy the Central Banks for several years.

At the present time, central banks are facing a major dilemma (for more analysis please read the analysis entitled “The Big Dilemma: Interest Rates Increases or Price Controls“), as rising interest rates to tackle inflation simultaneously slow growth and increase the risk of leading the global economy into recession. Already in the first quarter of the year the US economy shrank and growth in the Eurozone slowed sharply, while in China industrial production fell due to strict measures to contain the pandemic.

The risk of a global recession is no longer negligible as the sharp slowdown in economies now reaches three continents. Let’s not forget that seven of the Fed ‘s eight interest rate hikes, from 1955 to the present, have ended in recession in the United States.

The reversal of the global interest rate cycle will affect all countries. The deterioration of the international environment in combination with the announcements of the central banks has also affected the lending conditions in the fixed income markets. These increases have not yet turned into an increase in bank interest rates. Corporate lending rates rose slightly in March, while household lending rates remained stable. The reason is that the liquidity of the banking system remains at extremely high levels both due to borrowing from the ECB and due to the significant increase in private deposits over the last two years.

In addition, the increase in borrowing costs will burden the refinancing of public debt of countries with high levels of public debt. However, the public debt service of these countries will remain immunize, not reversing its dynamics, since these countries have restructured their public debt, with the service of their public debt having a middle-long average duration combined with a low interest rate of the service of its existing public debt. Then in this case, the service of the public debt of these countries will work stabilizingly, and as long as most of the public debt to the official sector is based on a fixed interest rate and its service cost will not be significantly affected by the forthcoming interest rate increases.

In this case, the rise in interest rates will mainly affect the private sector.

  • There will certainly be a potential investment slowdown, as investors may opt for safer and more efficient head positions in other areas, such as bonds.
  • Consumers, also under pressure from inflation, may slow down their consumption, contributing to the weakening of the growth rate.
  • Businesses will be hit as the cost of borrowing and servicing their liabilities increases and possibly their turnover.
  • At the same time, more loans are likely to become “red loans”, especially if the phenomenon lasts and interest rates rise sharply.
  • In addition, high interest rates will force fiscal policies to achieve higher primary surpluses in countries that have budget problems with their budgets as public debt repayments will increase, limiting budget cuts for debt relief.
  • The slowdown in demand for loans combined with the increased cost of financing will negatively affect the profitability of banks.
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