Is Federal Reserve going to increase rates sooner than expected ?

Fig 9 : Source: U.S. Bureau of Labor Statistics, Consumer Price Index for All Urban Consumers: All Items Less Food and Energy in U.S. City Average, retrieved from FRED, Federal Reserve Bank of St. Louis;, May 17, 2021.


The middle Road believes that the vaccine rollout in the US has been excellent that might have contributed to an increase in inflation in the last couple of months apart from the stimulus and asset purchases. The recovery of the economy has been faster.  However, if the inflation remains above the 2 percent level, the real interest rate in the US would be between -2 to -4 percent, a huge problem for an economy that has a healthy expected growth of 5 percent per annum with unemployment at 6.1 percent. This abundant liquidity has already created asset bubbles i.e. buying assets above its intrinsic value. Real interest rates help economies that are either going through a deflationary phase of falling prices or anaemic very low persistent growth. A persistent negative real interest rates would fuel more inflation more time. It remains to be seen whether the inflation is temporary.

Though FED follows a dual mandate of balancing inflation and unemployment, 6.1 percent is excellent, especially during the pandemic. With a majority of the European Union countries on target to fully vaccinate 70 percent of the adult population by mid-July and China going full steam, the unemployment rate would reduce in the next few months. In the next couple of months, The middle Road expects the rate of inflation to be high. The middle Road’s outlook is that the Fed will stop asset purchases despite President Biden’s expansionary budget. It depends on how much the budget will be financed through increased taxes in real-time. If inflation, especially core- inflation, remains above 3 percent, the FED might gradually start increasing rates much sooner than expected, maybe as early as 2022.

The US economy debt as a percent of nominal GDP is 133.28 percent and expected to rise with negative real interest rates, US is a ticking time bomb facing a global explosion that could take many down. Only time will tell when the asset bubble will explode.



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