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The Legend of Central Bank’s ‘Soft Landing’


“Soft landings” are easier to find in central banker lore than in historical reality.

It’s been a big week for interest rates. Federal Reserve excessive increase followed by

Swiss National Bank‘S

the move to raise borrowing costs for the first time since 2007. Both went further than expected a week ago. One of the strangest is the Bank of England, boost rate of increase less than expected after forecasting UK output to fall 0.3% in the second quarter.

Consumer sentiment is falling sharply in most developed countries. After the data show US inflation hit 8.6% in May, inflation expectations in the next few years actually fell further. Inventory plunged into a bear marketand investors seem to have abandoned the notion that a more aggressive Fed would lower inflation without hurting growth — the famous “soft landing.”

They have an experimental point: This is, generosity, a rare fact.

Of the Fed’s 12 previous major tightening cycles since the 1950s, nine ended in recessions, official figures show. Among the exceptions, the exchange rate rose continuously from 1961 to 1966 without any recession, but inflation only temporarily eased and the last recession occurred in 1970. Perhaps the last time The most successful soft landings were in 1983 and 1984, even though the economy had just recovered from two recessions. And then there was the 1994 to 1995 cycle, where inflation didn’t rise at all: Alan Greenspan’s Fed acted for no apparent reason other than to validate the bond market’s forecasts.

The BOE has a better track record, but nearly half of interest rate hikes since the 1950s still end in recession in the UK.

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Investors struggle to measure this risk because Central bankers do not seem to have a consistent theory on how they are supposed to micromanage inflation. Modern views are more conducive to the optimistic idea that the economy can slow down in a “nominal” sense without affecting employment or inflation-adjusted wages. They often focus on how psychologically steering inflation expectations might constrain price setting in the present. But this has weak data support.

Indeed, officials often return to 1960s-style explanations, which see cooling the labor market as a necessary step. For example, Fed Chairman Jerome Powell recently described it as “unhealthy” while BOE Governor Andrew Bailey emphasized the need for a pay cap.

If monetary policy is to work, something is needed – be it weaker credit growth, falling asset prices or a gloomier business environment. The fact that this could happen without affecting anyone’s “real” physical condition is a textbook fantasy.

To make sure, the power of interest rates over the unemployment rate Nor should it be overestimated. Yes, there is a historical coincidence between business cycles and money, but this is natural: Officials tend to raise rates as economies grow, only to stop when recessions hit out. The experience of the mid-1990s was a rare instance of monetary tightening without a tightening economy, and the impact was very limited.

The general impression is that extreme rate moves like the 1970s and 1980s may need to have a meaningful impact. Even if central banks initially tried to make the right amount of adjustment, this would only fix a fraction of today’s inflation that is not driven by commodities. The headline numbers will remain high, creating an irresistible pressure on officials to continue tightening.

Investors better hope that a soft landing will happen on its own, because central banks’ technical chances do not look good.

Write letter for Jon Sindreu at [email protected]

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