26.09.202212:56 Forex Analysis & Reviews: Fed inaction will lead the US into a deep recession

The Federal Reserve is facing one of its most difficult times, which began with the enforced worldwide lockdown that brought the global economy to a standstill. This led to excessive government stimulus. The result: rising inflation and a critical blunder by the Federal Reserve that led the economy into a potential intractable crisis.

This was the single but critical fallacy of the Fed that made it impossible for the US economy not to enter a deep recession with high and persistent inflation that would hurt the economy for years to come.

The Federal Reserve System has for many years maintained the view that inflation is transitory.

On the assumption that rising inflation was a temporary scenario that would naturally work out over time, the Fed did nothing. By not raising interest rates a few years ago when inflation began to rise, they sealed the fate of creating the economic scenario that was currently in place. This inaction put the Fed in a position where it was too late to act.

Because the Federal Reserve did not respond in a timely manner, it lost the ability to effectively stem the rise in inflation.

There has never been a case in history when the Federal Reserve effectively reduced inflation without raising interest rates. Forced lockdowns and the 2020 recession resulted in an average inflationary pressure of 1.2%. In 2021, inflation was 1.4% in January, and was already 2.6% in March.

If the Federal Reserve were to step in and start raising rates rather than keeping inflation going, it could have dramatic consequences. Instead, the Federal Reserve did nothing. If they had acted at this point and started slowly raising interest rates that were artificially set low between 0 and a%, they would have made a huge impact by simply bringing interest rates up to 2%.

In April 2021, inflation was 4.2%, and the Federal Reserve continued to do nothing and artificially lower interest rates. By May 2021, inflation rose to 5%, and to 5.4% in June, and the Fed still did nothing. In fact, inflation rose to 6.2% in October, 6.8% in November and 7% in December, while the Federal Reserve still did nothing and kept interest rates artificially low.

By the time the Federal Reserve initiated its first interest rate hike in March 2022, inflation was already at 8%. For now, the Fed will need to raise rates to at least 8% to have any sustained impact on lowering inflation.

It is clear that the signs of rising inflation that took place in 2021 showed a clear and systemic increase by the first quarter, when the Fed should have acted, but did not. It was its basic misconception that inflation was transient that led to the inactivity of the Federal Reserve before it was too late.

Now the Federal Reserve is trying to reduce inflation by raising interest rates that cannot be sustained for a long time.

With the national debt well above 120% of GDP, if interest rates were raised from 3% to 8% today, it would add $1.5 trillion a year to service the national debt. Clearly, the Federal Reserve has backed itself into a corner, and because of a critical mistake that forced them to do nothing when they could have had a strong and immediate impact on inflation, instead they sat on the sidelines and watched interest rates spiral out of control.

In the coming years, the consequences of the inaction of the Federal Reserve System will certainly take place in the form of a deep and prolonged recession and high inflation, which at best will remain at a level of just above 4%.