The Fed, interest rates and stagflation

“So even if ‘quantitative easing’ begins to tail off next year, interest rates will stay very low or near zero for at least another year. The Fed is in a quandary. Low interest rates are bad because too much borrowing at cheap rates could lead to higher and sustained inflation if supply cannot match accelerating demand, while borrowing for speculation in financial assets and property will continue. On the other hand, hiking interest rates will raise the cost of servicing existing debt, now at record levels, which could eventually lead to defaults, bankruptcies and a financial crash. The Fed is not sure which way to go.

But then neither is mainstream economics. That’s partly because mainstream economics has no clear explanation for low interest rates…

So if market interest rates are ultimately determined by the profitability of capital and not by the relation between ‘savings and investment’ or the level of inequality and household consumption, then if profitability of capital stays low, interest rates will do likewise, whatever the Fed or other central banks do. Or to be more precise, if the Fed opts not only to end quantitative easing but to hike its policy rate significantly, then it is more than likely to engender a debt crisis because the profitability of productive capital has not been raised.”

Michael Roberts Blog

“The economy has made progress toward employment and inflation goals and if progress continues broadly as expected, a moderation in the pace of asset purchases may soon be warranted”, the US Federal Reserve officials said in their September monetary policy statement. The Fed also signalled interest-rate increases may follow more quickly than expected, with 9 of 18 policymakers projecting borrowing costs will need to rise in 2022.

The Fed reduced its real GDP growth forecast for this year to 5.9% from 7% in its June projection, but raised its forecast for next year to 3.8% from 3.3% in the June projection). More concerning for investment markets and for wage workers, inflation is expected to average 4.2% this year before dropping back to 2.2% next year; and the unemployment rate will stay above pre-pandemic levels this year and next.

The big question for the Fed is whether it should stop…

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