With monetary policy, what matters most is the destination, not the journey. What ultimately shapes the economy and markets is not a central bank's tactical moves, but how much it eventually raises interest rates.
Now, a seismic shift is underway in the outlook for the so-called terminal rate of this tightening cycle.
Since a high inflation reading Tuesday, expectations have grown that the Fed will end up hiking much higher than seemed likely a week ago. It's causing stock prices to tumble and the odds of a recession to rise.If the outlook rapidly being priced into markets becomes a reality, it marks the end of an era in which rates seemed perpetually locked near zero.
Just maybe, ZIRP is no more. That, at least, is now priced into the bond market, with one-year Treasurys now yielding more than 4%, the highest since 2007.On Sept. 9, for example, futures markets priced in less than 1% odds that the Fed's target rate will be above 4.5% by February. By Friday morning, those odds had risen to 36%, according toIn a mechanical sense, higher interest rates make each dollar of future earnings worth less today.
But chief U.S. economist Matthew Luzzetti and three colleagues argued in a research note published yesterday that, "accounting for risk management considerations, a rate approaching 5% is likely to be needed."Ray Dalio, the founder of massive hedge fund Bridgewater, argued in that if the Fed ends up pushing rates to 4.5%, it implies a 20% decline in stock prices because of the higher discount rate for future earnings, as well as lower incomes.Following its policy meeting concluding Sept. 21, Fed officials will release new forecasts of, among other things, their own expectations for the path of interest rates.rates would top out at 3.8% at the end of next year; on Wednesday, we find out whether they've upwardly revised those forecasts.
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