Fortress Capital Asset Management Sdn Bhd CEO Thomas Yong questioned if monetary policy could be effective when inflationary pressures are largely stemmed from supply disruptions rather than unexpected demand growth.
THE US Federal Reserve’s (Fed) aggressive interest rate hike may have brought some certainty regarding its inflation control, but has also thrown up challenges to strike a fine balance and avoid a hard landing.
As the Fed may have been too late to raise rates, the challenge now is also to grapple with the possible onset of recession and the lack of room for rate cuts.
Could the coming July hike of possibly 0.5% be the last as incoming data begins to reflect a likely negative print for second quarter gross domestic product (GDP) growth, against the negative print for first quarter growth?
With more aggressive Fed rate hikes, the risks of a US recession have risen; finding the right level of rates is a challenge as it should be effective in curbing inflation and yet not choke off the economy.
Fortress Capital Asset Management Sdn Bhd CEO Thomas Yong questioned if monetary policy could be effective when inflationary pressures are largely stemmed from supply disruptions rather than unexpected demand growth.
The risk of over-tightening has increased, as the Fed is increasingly reacting to monthly data points on headline (raw inflation data that includes highly volatile numbers) Consumer Price Index inflation, surveys of inflation expectations, breakeven inflation rates in the near term rather than medium to long term, as well as supply side shocks.
Before the Fed can even reach normalised rates, the next US recession (which could be reminiscent of the severe recession in the early 1980s) may have started, according to former Inter-Pacific Securities head of research Pong Teng Siew.
“There is more room for accidents, while the balance of risks is skewed towards below-trend economic growth in the United States in 2023, with spillover effects onto the global economy,” said RHB Bank group chief economist Sailesh K. Jha in a report.
Before the Fed can even reach normalised rates, the next US recession (which could be reminiscent of the severe recession in the early 1980s) may have started, according to former Inter-Pacific Securities head of research Pong Teng Siew.
The Atlanta Fed had reduced the second quarter GDP growth forecast to 0%, while the Philadelphia composite business outlook index reported a plunge into negative territory.
The recovery from the next recession may not look good.
Even though printing money endlessly had led to inflationary effects, much of this impact on the world was held down by the long spell of manufacturing productivity growth in China.
But most of this has been worked to an end, as costs in China have risen and production is shifting out of China in a futile search for the “next China,” said Pong.
In terms of options, Vietnam only has a population of one fourteenth of China’s, while in the case of India, most are watching when it can get its act together.
“A Fed funds rate of above 3.5% (currently 1.5% to 1.75%) may tip the US economy into a recession, while aggressive Fed rate hikes will likely douse Asean’s economic momentum and recovery, even with strong tailwinds from reopening,” said Maybank Investment Banking Group regional co-head, macro research, Chua Hak Bin.
“As there are always moving parts in the economy, such as supply chain disruptions following the zero-Covid strategy in China and war in Ukraine, inflation can remain stubbornly high for a protracted period of time,” said Bank Islam (M) Bhd chief economist Afzanizam Mohamed Rashid.
Asean central banks will have to bring forward their plans to raise rates despite their nascent economic recovery.
Following its 0.25% rate hike in May, Bank Negara may raise rates again by 0.25% in July and by end-2022 respectively, to reach 2.5%.
“We maintain our forecast of the overnight policy rate to reach 3% in 2023,” said Maybank Investment Bank chief economist Suhaimi Illias.
Most emerging economies will face an increase in the real value of emerging debt and costs of servicing debt in local currencies.
Capital will flow towards US Treasuries in search of higher returns, while the strengthening dollar, backed by better yield differentials, will put significant pressure on the currencies of emerging economies.
In 2018, when the Fed’s aggressive hiking cycle had exerted considerable pressure on many currencies of emerging economies, some of these currencies had fallen to record or near-record lows, said Socio Economic Research Centre executive director Lee Heng Guie.
Meanwhile, the Fed has to ensure that it is on top of the game and is consistent with its rate hike policy. The US core personal consumption expenditure (which excludes food and energy prices) is expected to be reduced from 4.3% in 2022 to 2.7% and 2.3% in 2023 and 2024 respectively.
“As there are always moving parts in the economy, such as supply chain disruptions following the zero-Covid strategy in China and war in Ukraine, inflation can remain stubbornly high for a protracted period of time,” said Bank Islam (M) Bhd chief economist Afzanizam Mohamed Rashid.
Looking at past rate increases, the impact was only felt within 12 to 18 months and that lag should be projected to the markets.
“The Fed needs to signal its intentions early, and not take the markets by surprise,” said Etiqa Insurance and Takaful chief strategy officer Chris Eng.
Implication to job market
It is a challenge to balance inflation control and maintain jobs.
Post its aggressive rate hikes, the Fed needs to ensure that there are no serious implications to the job market and business income, according to Areca Capital Sdn Bhd CEO Danny Wong.
While there is more certainty on the Fed’s intention to fight inflation, there is also uncertainty on the impact of its aggressive rate hikes and what sudden actions it may take, if it does not get the desired outcome.
Yap Leng Kuen is a former StarBiz editor. The views expressed here are the writer’s own.
