Is the current interest rate hike cycle coming to an end?, Interest rates have reached their highest level in 22 years, with depth | the Federal Reserve raising interest rates by 25 basis points, the highest level in 22 years | a 25 basis point hike | the Federal Reserve

The Federal Reserve ended its two-day monetary policy meeting on July 26th, announcing a 25 basis point increase in the target range of the federal funds rate to between 5.25% and 5.5%, the highest level in 22 years.

This is the 11th rate hike by the Federal Reserve since entering the current rate hike cycle in March 2022, and it is also the Fed's resumption of rate hikes after pressing the pause button in June.

Analysis suggests that the 25 basis point rate hike by the Federal Reserve is aimed at further curbing inflation while minimizing negative impacts on the financial system. At the same time, the Federal Reserve has left a suspense over the prospects of monetary policy.

High in 22 years

The Federal Reserve issued a statement on the same day, evaluating several indicators that affect its monetary policy.

The Federal Reserve believes that recent economic activity in the United States has continued to expand moderately, and the US banking system is healthy and resilient; Strong employment growth and low unemployment rate; The inflation rate is still above the long-term target of 2%, and the risk of inflation still needs to be highly monitored.

The Federal Reserve also noted that tightening credit conditions for households and businesses may put pressure on economic activity, employment, and inflation, but the extent of the impact is still uncertain.

To achieve employment and inflation targets, the Federal Reserve has decided to raise the target range of the federal funds rate to between 5.25% and 5.5%, the highest level in 22 years. The Federal Reserve will also continue to reduce its holdings of US treasury bond bonds and institutional bonds in accordance with previous plans.

Federal Reserve Chairman Powell stated at a press conference held after the meeting that the Federal Reserve has significantly tightened monetary policy since the beginning of last year, but the effects have not yet been fully realized. Inflation in the United States has slowed down since the middle of last year, but still far exceeds the long-term target of 2%. The Federal Reserve is still committed to bringing inflation back to 2%, and this process still has a long way to go.

The public opinion believes that compared to last month's statement, the Federal Reserve's view on the inflation situation has not changed much.

The market reaction to the latest decision and statement of the Federal Reserve is mixed.

In terms of the stock market, the Dow Jones Industrial Average has risen for the 13th consecutive trading day, setting a record for the longest consecutive rise since 1987. The S&P 500 index closed flat, while the Nasdaq Composite Index fell slightly.

In terms of treasury bond, the yields of two-year US treasury bond and 10-year US treasury bond both fell by about 5 basis points.

In terms of foreign exchange, the US dollar index fell 0.3% to 101.02.

Inflation remains high

At the beginning of last year, as inflation in the United States rose to its highest level in 40 years, the Federal Reserve began this cycle of interest rate hikes - the federal funds rate continued to rise significantly from near zero levels, ending the era of low-cost borrowing that began during the financial crisis.

As of May this year, the Federal Reserve has raised interest rates 10 times in a row, with a cumulative increase of 500 basis points, marking the fastest rate hike since the 1980s.

However, cooling down economic activity by increasing borrowing costs takes time. At the same time, the continued aggressive interest rate hikes by the Federal Reserve have had an increasingly significant inhibitory effect on economic growth, and have also brought shock to the banking industry.

In terms of economic growth, data from the US Department of Commerce shows that the US real gross domestic product grew at an annual rate of 2% in the first quarter of this year, which is a significant gap compared to the 2.6% GDP growth in the fourth quarter of last year.

The US Department of Commerce is scheduled to release its first estimate of GDP for the second quarter of this year on July 27th. With a significant slowdown in consumer spending, public opinion is expected to have little change compared to the previous month.

In terms of the financial system, in the first half of this year, three US banks - Silicon Valley Bank, Signature Bank, and First Republic Bank - exploded one after another, highlighting the negative impact of the Federal Reserve's continued aggressive interest rate hikes.

In this context, the Federal Reserve pressed the "pause button" during its monetary policy meeting last month, keeping the federal funds rate between 5% and 5.25%. This is the first time the Federal Reserve has suspended interest rate hikes since March last year, following 10 consecutive rate hikes.

Currently, the Federal Reserve is resuming its pace of interest rate hikes, raising interest rates for the 11th time in this cycle, resulting in a cumulative increase of 525 basis points.

Ding Yifan, Senior Researcher at Taihe Think Tank, and Song Guoyou, Deputy Director and Professor of the Center for American Studies at Fudan University, both believe that the 25 basis point rate hike by the Federal Reserve has two main considerations.

On the one hand, despite data showing a recent decline in inflation levels in the United States, inflation remains at a high level. If interest rates are not raised to curb it, it may have a negative impact on the long-term growth of the US economy.

According to data from the US Department of Labor, the Consumer Price Index rose 3% year-on-year and 0.2% month on month in June. After excluding volatile food and energy prices, the core CPI in June increased by 4.8% year-on-year and 0.2% month on month.

Specifically, the housing cost increased by 7.8% year-on-year and 0.4% month on month, which remains the main driving factor for price increases; Energy costs decreased by 16.7% year-on-year and increased by 0.6% month on month; Food prices increased by 5.7% year-on-year and 0.1% month on month.

In this context, the Federal Reserve's interest rate hike overall meets market expectations.

"The Federal Reserve's interest rate hike this time is to better consolidate the results of curbing inflation." Song Guoyou said that this move also reflects the Federal Reserve's continued focus on curbing inflation as its main goal, as well as its determination to curb inflation.

On the other hand, there are already signs that the US economy is cooling down, and the financial system is facing considerable pressure after the Federal Reserve's significant interest rate hike.

On July 9th, US Treasury Secretary Yellen stated in an interview with US media that it is "not entirely impossible" for the US economy to enter a recession due to high inflation. She hopes and believes that there will be a path to reduce inflation.

It is worth noting that compared to the previous 75 basis point and 50 basis point rate hikes, the 25 basis point rate hike this time is relatively small.

"Raising interest rates by 25 basis points can be seen as a balance of policy choices aimed at achieving multiple goals," said Song Guoyou.

Ding Yifan also stated that the 25 basis point interest rate hike reflects the cautious consideration of the Federal Reserve.

Geometry of domestic and international influences

Both scholars have stated that despite the 25 basis point interest rate hike, further tightening of monetary policy by the Federal Reserve may still have a negative impact on the domestic and international economic situation.

At the domestic level, Ding Yifan said that this move may still have a certain impact on the financial market. As demonstrated by the US banking crisis earlier this year, the continued interest rate hikes by the Federal Reserve will affect bank asset allocation.

Song Guoyou said that further interest rate hikes by the Federal Reserve may have a restraining effect on economic activity.

At the international level, Song Guoyou said that given the Federal Reserve keeping interest rates high, other countries face potential financial risks such as capital flight.

As the Federal Reserve resumes its interest rate hikes, the European Central Bank will hold a monetary policy meeting on July 27th. Public opinion predicts that the European Central Bank will also raise interest rates by 25 basis points.

Since the start of the interest rate hike process in July last year, the European Central Bank has raised interest rates eight times in a row, totaling 400 basis points. However, according to Eurostat data, inflation pressure in the eurozone remains high, with an annual inflation rate of 5.5% in June.

Ding Yifan expects that the European Central Bank may follow the Federal Reserve's interest rate hike decision, as the two major markets in the United States and the eurozone are closely linked.

Song Guoyou stated that in terms of monetary policy, the European Central Bank and the Federal Reserve will maintain coordination, with an overall consistent pace, but not completely consistent. This is because in the context of the Ukraine crisis and other factors, the European economy is facing some problems and challenges that the United States does not have.

For example, in the first quarter of this year, the real GDP of the United States grew at an annual rate of 2%. According to Eurostat data, after seasonal adjustments, the GDP of the eurozone in the first quarter of this year increased by 0.1% month on month and 1.3% year-on-year. It is expected that the European Central Bank will take into account local conditions when formulating monetary policy.

Coincidentally, the Bank of Japan will also hold a monetary policy meeting from July 27th to 28th, and is expected to make decisions based on local conditions. Given that local demand expansion inflation has not yet emerged, it is unlikely that the Bank of Japan will revise its monetary policy this month.

Keep all options

Next, the direction of the Federal Reserve's monetary policy is highly anticipated. It is widely believed that the Federal Reserve's current interest rate hike cycle has come to an end and may raise interest rates one or two more times before entering the next stage of fighting inflation, which is to maintain interest rates stable until inflation is defeated. However, whether and when the potential next interest rate hike will ultimately arrive remains a question mark.

The Federal Reserve has not provided a clear answer either. "If the data shows it's necessary, of course we may raise interest rates again at the September meeting. I would also say that we may choose to remain unchanged," Powell said.

The public opinion believes that as the Federal Reserve seeks the end of this interest rate hike cycle, it has left room for policy adjustments to prevent inflation from exceeding expectations.

Sima Shah, Chief Global Strategist at Xinan Asset Management, said that "it depends on data" is still a popular saying. Given that inflation and signals in the labor market remain confusing, retaining all options seems wise.

According to the BBC, Andrew Patterson, a senior economist at Pioneer Navigation, believes that the Federal Reserve is concerned about announcing victory too early because they still remember the mistakes made in the 1960s and 1970s. At that time, Federal Reserve leaders believed in signs that inflation was easing, but the problem erupted again.

When it comes to the prospects of the Federal Reserve's monetary policy, especially how long high interest rates will last, and when the Federal Reserve will consider exiting the rate hike cycle, both scholars believe that it remains to be observed.

"The Federal Reserve is feeling its way across the river," Ding Yifan said. The Federal Reserve will continue to evaluate factors such as inflation indicators and the impact of tightening monetary policy on the financial system.

US media reports that Powell will give a speech at the Jackson Hole annual economic seminar next month, which may provide more clues to the expectations of the Federal Reserve's monetary policy meeting in September.

Before the September meeting of the Federal Reserve, a series of reports and data on employment, consumption, prices, and other aspects will be released one after another, which may also become a factor influencing the Federal Reserve's decisions.

However, David Henry, an investment manager at asset management firm Quilter Cheviot, noticed that the pace of the Bank of England, the European Central Bank, and the Federal Reserve in curbing inflation has shown a gap. In the future, there may be differences in policies among developed economies.

"It is possible that the United States began discussing interest rate cuts before the Bank of England had the opportunity to stop and evaluate the impact of its actions, which would have a significant impact on stock and bond prices on both sides of the Atlantic."