Concerns about a recession continued to mount as inflation remains far above long-term averages with overall prices rising 8.6% year-over-year according the most-recent CPI report. The larger-than-expected rise in prices led to the Federal Reserve raising interest rates by 75 basis points during its meeting this week.
The central bank had originally signaled a 50-point hike but decided on 75 after recent economic data. Additionally, the Fed signaled another 75 point hike could be on tap for its next meeting in July. Analysts are now projecting the Federal Funds Rate to reach 3.4% by the end of 2022 as the Fed focuses on fighting inflation.
The raising of rates in an effort to cool down price pressures was not reserved to just the United States this week. The Swiss National Bank surprisingly raised rates by 50 basis points. The jump kept rates in the negative as they moved from -0.75% to -0.25%, but represented the first rate increase for Switzerland since the global financial crisis. Meanwhile, the Bank of England also voted for a rate increase this week with the central bank moving its Bank Rate from 1% to 1.25% with a vote of 6 to 3. Interestingly, the three dissenting members voted for a larger hike, to 1.5%.
Recession vs Inflation
The main theme of the week was central banks enacting tighter monetary policy through higher interest rates in an effort to calm inflation. Inflations is running rampant currently so it's a reasonable response but will put tremendous pressure on the economy with borrowing becoming more expensive. A lack of growth in the first quarter coupled with disappointing earnings outlook from major players this earnings season adds on to the worries of the economy spiraling into a recession with higher rates only adding to that.
A critical role of the Fed has been to engage in tighter monetary policy while the economy recovers from the pandemic while balancing maximum employment and price stability. However, the increasingly large rate hikes as a reaction to inflation trends look increasingly like they could come at the cost of a recession. Prices may stabilize but the economy will suffer.
After last week’s disappointing CPI report, economists expected the PPI to rise 0.8% in May and they were right on the money. Overall producer prices jumped 0.8% following April’s 0.4% rise while core prices (excluding food and energy) rose 0.5%.
Retail sales meanwhile underperformed as sales fell by 0.3% in May compared to the expected 0.2% rise. Additionally, housing starts and building permits also came in lower than projected with 1.549 million and 1.695 million last month, respectively, versus the estimated 1.73 million and 1.8 million. To top it off, industrial production and capacity utilization also came in worse-than-expected with production rising only 0.2% compared to the projected 0.5% increase and utilization coming in at a reading of 79.0% with analysts consensus hovering around 79.3%.
All in all, the S&P 500 dropped 5.8%, the Dow Jones Industrial Average lost 4.8%, and the NASDAQ fell 4.78%.