Fed warns sharp rise in interest rates poses risk to US economy

A sharp rise in interest rates to stem new shocks from inflation would pose a risk to the U.S. economy, the Federal Reserve said on Monday when it reported a “higher than usual” chance that trading conditions in U.S. financial markets would suddenly deteriorate.

“Additional negative surprises in inflation and interest rates, especially if accompanied by declining economic activity, could adversely affect the financial system,” policy makers wrote in the Fed’s Financial Stability Report, published twice a year in May and November.

Consumers’ money could be hurt by job losses, higher interest rates and lower house prices, the Fed warned, as businesses also face “higher liability, bankruptcies and other forms of financial distress.”

“A sharp rise in interest rates could lead to higher volatility, pressure on market liquidity and a major correction in risky asset prices, which could lead to losses in a variety of financial intermediaries,” the Fed reported.

This will reduce “their ability to raise capital and maintain the trust of their counterparties,” the central bank added.

The U.S. has also issued a warning about liquidity – the ability to buy or sell a property without affecting the price – after several insane months in U.S. markets. A sale mimics trillions of dollars from the value of stocks and bonds while closing a door to new stock lists and raising credit costs for consumers and corporations.

The Fed said the ability to buy or sell properties at prices set by broker-dealers “deteriorated” and was worse than expected given volatility levels. She added that the decline in liquidity may be due to the fact that high-frequency brokers and trading companies are “extremely cautious” given market conditions.

“A deep decline in times of rising uncertainty and volatility could result in a negative feedback loop, as lower liquidity could cause prices to be more volatile,” policymakers wrote in the report.

Conditions in the finance, commodity and stock markets were considerably worse this year, with traders reporting that they had difficulty making relatively small trades without affecting prices.

The fluctuations in the price of everything from treasury bonds to corporate bonds and stocks were due in part to the Fed’s move to tighten monetary policy, as well as Russia’s invasion of Ukraine and China’s economic slowdown.

The central bank last week provided its first interest rate hike by half a point since 2000 and is set to implement further hikes to the same extent in its next two policy meetings. In June, it will also begin reducing its $ 9 billion balance sheet – which was boosted after raising bonds during the corona plague – while stepping up its efforts to curb the highest inflation in about 40 years.

The prospect of higher interest rates has pushed the 10-year yield on the Treasury index to its highest level since 2018. This rise has forced investors around the world to re-evaluate the value of many of the stocks offered to peaks during the past year, when the S&P 500 fell more than -16% this year and the high-tech Nasdaq Composite is down more than 25%.

The Fed also highlighted potential risks associated with a “prolonged” war between Russia and Ukraine, which has already squeezed commodity markets.

“Russia’s unstoppable war in Ukraine has provoked large price movements and wide-ranging calls in the commodity market and highlighted a potential channel through which large financial institutions could be exposed to contagion,” Liel Brainard, the deputy chairman, said in a statement alongside the report on Monday.

“The Federal Reserve is working with local and international regulators to better understand the exposures of commodity market participants and their relationships with the core financial system.”

Fed warns sharp rise in interest rates poses risk to US economy Source link Fed warns sharp rise in interest rates poses risk to US economy

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