SUPPOSE for a moment that you are sitting on the Federal Open Market Committee and therefore share the FOMC's view of what's going on in America's economy, and therefore think that it was sensible to raise the fed funds target in December. This means that you look at the data from the second half of 2015 and see an economy experiencing a robust, broad-based recovery, apart from energy-related businesses and some manufacturers. You see employers adding workers at a sustained, rapid clip, despite the fact that the unemployment rate has fallen to 5%. And you say, look, oil can't fall that much farther, and payroll growth at this pace and unemployment rate has to eventually lead to much faster wage growth and higher inflation. There's a risk that high inflation would be hard to bring down, and we don't want to create a new recession by hiking rates a lot in a short period of time. So best to get started with the hikes now, so that we can shepherd the economy toward sustained growth at 2% inflation.
So you raise rates. And then, let's suppose, all hell breaks loose. Stock markets suddenly lose their minds and start to swing violently, generally in the downward direction. Bond yields tumble, too (except on the government bonds of big emerging markets in vulnerable financial situations). Commodity prices fall off a cliff, led by oil....Continue reading
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