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Yesterday, the Fed announced a one-quarter-point increase in the Fed Funds Rate.
How will this impact your wallet?
Hello, my name is Paul Carroll. I’m the CEO and founder of Efficient Wealth Management, a boutique wealth management firm based here in south Texas. It’s interesting; the Fed has a dual, often conflicting, mandate. One is employment growth and the other is to control inflation. Janet Yellen’s decision to bump interest rates yesterday is quite controversial. It’s not solely her decision. There are eight hawks, eight Fed chairmen who voted for this. But the unemployment rate in the United States is 4.3%. That’s pretty darn close to what economists consider full employment. And inflation is at 1.9%, which is below the Fed target. The Fed actually targets 2%, and then informally maybe 2% to 3%. Inflation doesn’t need to be lowered, yet we’re increasing interest rates.
We do, however, have financial asset inflation. In fact, it’s a bit of a dilemma for policy makers. We have two types of inflation. We have price inflation that’s nonexistent, and asset inflation that is very much in existence. Price earnings ratios are high — stubbornly high. And wage growth is almost nonexistent. Now that there’s this decoupling of the different types of inflation, it’s very difficult to know how well this will work and how badly this was needed.
Why would you risk triggering a downturn when you don’t really need higher interest rates? I think the only argument that’s out there, and I can’t even tell you if I agree with it or not, is there is today a lack of ammunition to deal with the next downturn. When interest rates are 1% to 1.25%, which is where they were moved to, how much can you lower them in a recession? I think that’s a real concern for the Fed.
But how does all of this impact you? The Fed has signaled this with such efficiency that the market saw it coming. Probably the betting was in excess of 90% that this would happen. What that means is that this was already priced into the term structure of interest rates going forward. It was in essence a non-event. In fact, personally, it’ll be barely noticeable. Most people have credit card debt, that’s short-term debt, but a 1/4% on an 18% interest rate really is not perceived.
What could we learn about this though? Everybody expected, after the last election, that there would be a resurgence of inflation that came out of a combination of tax cuts and strong infrastructure spending. The interesting thing about that is the logic was absolutely right. But we’re confusing logic with reality and the reality is, in this case as in many cases, we really don’t know what will happen next. So it is important to build a portfolio that is not predicated on the outcome of prediction or a projection, that is what we do here at Efficient Wealth Management. We wish you the best of investing success. Thank you.
