July 21, 2024
Chicago Fed Economists Predict Decline in Inflation Below 2.3%
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Chicago Fed Economists Predict Decline in Inflation Below 2.3%

According to recent research from economists at the Federal Reserve Bank of Chicago, risk assets, including cryptocurrencies, appear to be headed for a “Goldilocks” moment in which the U.S. central bank has raised interest rates high enough to reduce inflation to its 2% target without triggering a recession.

Stefania D’Amico and Thomas King write in the September issue of the Chicago Fed Letter that their vector autoregression (VAR) model demonstrates that the 500 basis point rate hikes implemented since March 2022 have significantly reduced output and that additional hikes may not be required to bring prices under control. The so-called tightening cycle was partially to blame for the collapse of the cryptocurrency market last year.

“We estimate that although the majority of the effects on output and inflation have already occurred, the policy tightening that has already been implemented will exert further restraint in the quarters ahead, amounting to downward pressure of about 3 percentage points on the level of real gross domestic product (GDP) and 2.5 percentage points on the Consumer Price Index (CPI) level,” they commented. “The abatement of inflation occurs without a recession, as real GDP growth remains in positive territory throughout the projection.”

By mid-2024, the model predicts that the headline consumer price index will most likely fall below 2.3%, which economists calculate to be 2% inflation as indicated by the personal consumption expenditure (PCE) price index. That level is in line with the Fed’s objective for maximum job creation and price stability, as has been argued for a long time. The model by D’Amico and King does not predict future rate reductions or blatant liquidity easing.

The so-called “Goldilocks scenario,” which is the perfect setting for risk-taking in international financial markets, would result from the combination of declining inflation and a reasonably stable economy. Markets have been concerned about a potential global economic breakdown and subsequent financial disaster since the day the Fed started hiking rates.

The D’Amico and King estimate comes amid concerns that the headline CPI, which has fallen from 9% to 3% over the previous 12 months, may increase due to a new rally in oil and food prices and indications of a bottom in prices paid in the industrial and service sectors. Markets are afraid that the Fed may continue to maintain high rates.

Despite reaffirming that rates are expected to stay higher for a longer time than initially anticipated, many investment banks have forecast that the tightening cycle will come to an end.

However, the Fed has been cautious about declaring the cycle of rate hikes to be over. The VAR model indicates that expectations have become a more important factor in lowering the time it takes for rate rises to impact inflation and the economy due to the Fed’s constant explicit forward guidance.

“A strong expectations channel also means a more powerful monetary policy, so the estimated effects not only occur faster but are also bigger than typically estimated,” the letter stated. “This implies that the effects that are yet to come may still be big enough to bring inflation near target reasonably quickly.”

Image: Freepik

Disclosure Statement: Miami Crypto does not take any external funding, or support to bring crypto news to the readers. We do not have any conflicts of interest while writing news stories on Miami Crypto.

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