The ‘new normal’ for finances
This week the Federal Reserve System has a very important meeting.
As I write this column, we expect an announcement on Wednesday of raising interest rates by one-fourth of a point.
The stock market is expecting this decision, so it is priced in the current values. The Fed should probably raise the rate one-half of a point, but they often do not want to surprise the market. The reality is, they are not supposed to worry about the stock market. Instead, they are to carry out their main responsibility of controlling the economy.
Our current inflation rate of 7.5% in February is way too high. This will not be the only rate hike this year. In fact, many are expecting six or seven hikes.
The Fed has a very difficult job to do. They have probably let their easy money policies go on for too long. They let them continue even when the economy was rapidly expanding, and fiscal monetary policy was also out of control.
The pandemic added to the challenge. It disrupted the supply chain and Congress could not give away enough money. The Fed kept buying government bonds, expanding their balance sheet from under $1 trillion to $9 trillion. This is a huge amount of liquidity pumped into the economy.
The Fed is walking on a tightrope. They need to lower inflation and not put the economy into a recession.
In a CNBC FED survey, 33% of participants put the odds of a recession in the next 12 months at 33%.
The odds are even worse for the European Union. There, the odds of a recession in the next 12 months are 50%. Remember, Russia’s economy is being destroyed by the sanctions being imposed on them. This is really a world-wide economy in many ways.
Is that reflected in stock market values?
Some things that have shot up in price such as gasoline can return to a more normal level quickly. Many other areas of inflation will never go back down. This includes things such as wages. Prices at fast food restaurants have skyrocketed, too. When average wages increase from maybe $8 per hour to $12 per hour, prices will never return to the old level.
This will affect many other areas of the economy.
As interest rates increase, bond values will go down. It is likely to increase volatility in the stock market. Quantitative easing will be ending too, so a large amount of liquidity will vanish from the money supply. Mortgage and other loan rates will go up.
Make sure that your asset allocation matches the new reality. No one knows how long these changes will last. It will not be as short as the quick correction in March 2020 when COVID-19 was just beginning to take control of the world.
Remember, in a normal world, interest rates were often 3% plus the inflation rate. If that were to happen again it would push rates up as it did in the 1980s when many home mortgages were over 10%.
I am not predicting that will happen now, but we must be prepared for an economy we have not seen in many decades.
This may become the new normal.
Your Financial Future is written by certified financial planner Gary W. Boatman, MBA and CFP, who also wrote the book, “Your Financial Compass: Safe Passage Through The Turbulent Waters of Taxes, Income Planning and Market Volatility.” If there is an area that you would like to see discussed in the column, send your suggestions to gary@BoatmanWealthManagement.com.