Can the Federal Reserve Avoid Stagflation with Interest Rate Hikes?

May 04, 2022 09:23

The US Federal Reserve faces economic headwinds during today’s interest rate decision with high inflation and lower growth leading to the risk of stagflation. The only thing missing from the stagflation scenario is high unemployment. So far this year, job growth in the US has been resilient and there will be more information about the health of the labour market with the ADP results today and the Non-Farm Payrolls figures released this Friday, May 6.  

It appears that the monetary policy makers for the world’s largest economy have little choice but to keep raising interest rates to keep inflation in check. Will this course of action tamp down inflation enough to avoid stagflation or end up making the situation more difficult?  

As the US and global economies recover from the pandemic downturn, inflation triggered by geopolitical events clouds the outlook. It’s clear that the Federal Reserve must raise interest rates, but the size of the increase is the big question. Too much, too fast could undermine confidence and investment in job creation and that would most likely lead to stagflation. A period of stagflation would impact on the risks for US sovereign bonds, meaning that the Federal Reserve’s policy balances on a tightrope with a long drop below.  

Today, USD traders are pricing in an interest rate hike of 0.5 percent to 0.75 percent from the current level of 0.5 percent. Any surprises would likely mean volatility for the USD which has followed an upward trend since the beginning of the year. The ISM Services PMI report for the US is also due out today, providing more clues as to the health of the economy. 

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In trading news for the EUR, year-on-year Retail Sales for March are out today and are expected to have grown by 1.4 percent. The Eurozone has faced considerable obstacles to growth from the conflict in Ukraine and inflationary pressures, and the EUR may move depending on the results and traders’ responses to the latest news. The EUR remains under immense pressure from a strong US Dollar and traders are eyeing the prospect of parity between the Eurozone’s common currency and the USD. 

In investment news, first-quarter earnings results from large caps eBay Inc, Volkswagen (VW) St, and Siemens Healthineers AG are due out today.  

For more market sentiment and fundamental analysis, see Admirals Global Market Updates. 

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This material does not contain and should not be construed as containing investment advice, investment recommendations, an offer of or solicitation for any transactions in financial instruments. Please note that such trading analysis is not a reliable indicator for any current or future performance, as circumstances may change over time. Before making any investment decisions, you should seek advice from independent financial advisors to ensure you understand the risks

Sarah Fenwick
Sarah Fenwick Financial Writer, Admirals London

Sarah Fenwick's background is in journalism and mass communications. She has worked as a correspondent covering Swiss Stock Exchange news and written about finance and economics for 15 years.