What Might “Higher for Longer” Imply
October 23, 2023
U.S. financial markets have lately been spooked not by the expectation that the federal funds rate will be 5.25-5.50% federal funds rate is going to be raised considerably higher but rather by the spin of central bank comments that once the rate crests, the ensuing easing cycle will not commence soon afterward and that the slope of rate reduction will proceed very gradually. With future monetary policy during this next stage contingent upon a highly uncertain outlook for outlook for labor market conditions, inflation pressures, inflation expectations and financial and international developments, one examination that might shed light on the path of a federal funds rate that stays “higher for longer” is told by the experience after previous peaks in the rate.
Five precedents come to mind: February 1989 when the target rate peaked at 9.75%; February 1995 when it crested at 6.0%; May 2000, when the rate reached 6.5%; June 2006 when the last of 17 consecutive 25-basis point hikes put the rate at 5.25%; and December 2018 when a final final destination of 2.25-2.50% was attained.
- Only four months elapsed the February 1989 rate hike before an initial cut was made, and the rate one year after peaking had fallen by 150 basis points to 9.75%.
- Six months passed after the final hike in February 1995 before the rate cut initially, and officials had lowered such by a total of 175 basis points to 5.25% by February 1996.
- The 6.5% level at the end of the tightening cycle through May 2000 was maintained for 7 months, but the rate then retreated rather quickly and was down a total of 250 basis points by May 2001.
- After cresting at 5.25% in June 2006, the federal funds target was changed until September 2007 by which time the subprime mortgage crisis had begun.
- The last of the five precedents is the one that best fits a “high for longer” definition. After cresting at 2.25-2.50% in the final month of 2018, officials let seven months pass before cutting the rate and had in total reduced the federal funds target by just 75 basis points through the end of 2019.
During 2019, the ten-year Treasury yield fell by 76 basis points. The DOW and SPX-500 rose by 22.3% and 28.8% and were even exceeded by a 35.2% leap in the Nasdaq. However, the dollar barely moved between the ends of 2018 and 2019, dipping 0.9% against the yen and 3.8% versus sterling and rising just 2.1% on net relative to the euro.
Copyright 2023, Larry Greenberg. All rights reserved. No secondary distribution without express permission.
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