With the first four months of 2022 firmly in the rearview mirror and the recent events of May just outside our back seat windows, we must turn our attention to what is currently out the windshield and what we can expect over the coming days, months, and even years. As we look out towards what is coming down the road, we are currently seeing more and more warning signs of an impending economic recession. A few of these warning signs are inflation, interest rates, and broad financial conditions.
As we have touched on in numerous previous Insights, inflation through April continues to remain elevated, though perhaps off its peak in March 2022. If inflation remains this elevated, the Federal Reserve has no other choice but to maintain its hawkish stance in relation to the direction of interest rates and monetary policy. This has caused short-term interest rates to price in roughly 10-12 interest rate hikes for 2022 and causing mortgage rates to double in almost 2-3 months from 2.75% to 5.50%. When rates rise, this causes the velocity of money to slow. This makes logical sense – as financial conditions tighten and become more worrisome, individuals at the margin become tighter with their spending and can potentially delay or even begin to hoard what little savings they do have. All of this has also caused both the equity and fixed income markets to reprice substantially lower, resulting in one of the worst starts to a calendar year since before World War II.
With this as the backdrop, with prices rising, with the cost of debt rising, and with investments broadly down, is there any way the US, or more specifically the Federal Reserve, able to engineer a soft landing and avoid an economic recession? We certainly aren’t holding our breath waiting to find out.
