Central Bank Policies Are Moving Markets This Week
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Wednesday, the Federal Reserve’s Federal Open Market Committee (FOMC) announced an increase to interest rates by 75 basis points for this month, despite previous projections of a 50 basis point increase following their May meeting. The FOMC decision for this increase came as a reaction to last week's announcement from the Bureau of Labor Statistics (BLS) that inflation rose to a 40-year high of 8.6% in May. The interest rates in the U.S. are now at 1.5%-1.75% with projections for the year's end looking to be near 3.4%-- a stark contrast from the 1.9%-2.8% range projected back in March.
While the Fed is focused on cutting inflation, the 25 basis point jump suggests their apprehension of its effects and how it may fuel the fire that a recession is an inevitable outcome. Since the BLS report last Friday and the FOMC meeting conclusion on Wednesday, the markets have seen some of the sharpest losses since 2020 with the S&P -3.3%, Nasdaq -4.1%, and the Dow -2.1% all down at the close of Thursday. In anticipation of a more hawkish FOMC, Traders had accounted for the 75 basis point increase following the BLS report, but it wasn’t enough to prevent the subsequent selloff.
Crypto also took a heavy beating alongside the traditional markets with BTC having declined 31% where it now struggles to hold above $20k going into the weekend. BTC correlation coefficient with tech stocks remains high and accounts for a lot of this week's movement for crypto’s overall market cap. Although the stock and FOMC policy are significant for crypto market fluctuations, the shaky ground of stablecoins and crisis of liquidity in DeFi have also contributed to its recent losses.
In general, June has been significant in highlighting the movements of central banks around the world. Closing out the week there have been meetings from the FOMC, Bank of England (BOE), Bank of Japan (BOJ), Swiss National Bank (SNB), and one emergency session from the European Central Bank (ECB). The ECB emergency session was called in order to develop a plan to soften the blow of a more hawkish policy across their diverse economic landscape. Unlike its counterparts, the ECB has a complicated task of accounting for the economic health of all its member states. The gap between its wealthiest and poorest members will be the ultimate test in policy decisions moving forward. After almost a half percentage jump to a 2.9% inflation for May, the SNB made its first interest rate hike since 2007 by 50 basis points as an attempt to snuff out inflation early. The BOE struggles to tackle its rising 9% inflation and answers with a meager 25 basis point increase for fear of squeezing their people and smaller businesses too hard. In the far East, Japan’s 2.1% inflation proves to be a minor concern for the BOJ, as they refuse to increase interest rates. While this policy has caused the yen to lose ground against the dollar, the decision to retreat from the status quo of foreign counterparts may prove to be an alternative approach to economic growth by encouraging corporate profits.
The numbers for summer will act as indicators for central banks to see if their policy decisions are steering the economy in the right direction. The fear of recession is hot on the minds of economists and policymakers alike, and for some the edge of that cliff is approaching faster than their central banks can work. For the FOMC, the next few months will be important in determining how the balance sheet runoff and the aggressive rate increases are progressing. If successful, the FOMC can continue its plan of incrementally increasing the balance sheet runoff and rate hikes, but if they are unsuccessful, the FOMC may need to switch tactics and pump the brakes before continuing. One way or the other, the danger of recession is no longer out of the question and preparation for the best and worst case scenarios are reflected by the global markets.