Opinion: Too much faith in the Fed has been lost. Will she be able to win our trust back?

Editor’s note: Mohamed El-Erian is President of Queen’s College at the University of Cambridge, the Renee Kearns Professor at the Wharton School of Business, a Senior Fellow at the Lauder Institute and an advisor to Allianz and Gramsey. He serves on the boards of Barclays, NPR and Under Armour. The opinions expressed in this comment are his own.

This week, it will become more clear to economists and policymakers around the world that the Federal Reserve is on track to catch up with 22 of its own. Driven by concerns about high and persistent inflation, the Fed will likely go down in history as it raised interest rates by the same large amount in three consecutive policy meetings. But because it does so in a weak economy, it will face criticism for harming not only the well-being of the domestic economy, but also global growth.

This unfortunate situation faced by the Fed — damned if you do, damned if you don’t — illustrates a deeper issue. Having missed the window when a “soft landing” of the economy was possible, (i.e. lowering inflation without much harm to the economy), the Federal Reserve now finds itself painfully far from the realm of “better” policymaking. In other words, rather than having at its disposal highly effective, timely, and well-targeted measures to combat inflation, this Fed has ended up in a world in which nearly all of its policy actions can cause significant collateral damage and unintended negative consequences. Many politicians, businesses, and families take the risk of thinking of the Fed as part of the problem rather than part of the solution.

What is likely to be the third record in a row 75 basis points The increase comes on the back of devastating increases in the cost of living that has widened, making matters worse, becoming more integrated into the structure of the economy. the address inflation, which is currently 8.3%, may be declining, but the core rate, which excludes more volatile categories such as food and gas, is still rising. It is the latter, which currently stands at 6.3%, that measures the breadth and likelihood of continued inflation.

Yet, for nearly the past year, the Federal Reserve has consistently downplayed the risk of inflation. Meanwhile, the economy continued to adjust to operate at zero interest rates. Markets continued to take comfort from the Fed’s repeated intervention to offset lower stock prices (the so-called “Fed Mode”).

But the Federal Reserve did not stop assuring us of that until the end of November of last year inflation It was “temporary”. Just a few months ago, he was still pumping Liquidity in the economy while inflation was rising rapidly.

Now, the Fed realizes it’s too late to respond. By allowing inflation to become more entrenched – or as president Jerome Powell He said last month, “to spread through the economy” — the Fed must now be more aggressive than it would have been if it had responded in time. The Fed also needs to avoid another blow to its already damaged political reputation and credibility.

Instead of leading the markets in the fight against inflation, the Fed had to follow suit. Even last month’s hardcore Powell pivot during Jackson Hole Economic SymposiumTime and time again, I have been forced to revise policy guidance to make it more consistent with what the markets were referring to. Combined with the seemingly endless one-way revisions in key economic forecasts (high inflation and low growth), this has unfortunately changed the Fed’s economic and financial role from a credible leader to a lagging one.

However, because it has been so late in responding, the Fed will turn aggressively toward the weak domestic and global economy. Thus, a growing number of economists are warning that the Federal Reserve will push the United States into a recession. A growing number of foreign policymakers are complaining that the world’s most powerful and systemically important central bank is pulling the rug out from under the already fragile global economy. This is a far cry from the role the Fed celebrates in helping avert a very devastating global recession in both 2008-2009 and, most recently, 2020.

Policy actions this week may end in three different parts of our economic history books: the first time the Fed has raised interest rates by 75 basis points in three consecutive meetings; Another component of the biggest central bank policy mistakes in several decades; An unusual example of a developed country central bank finding itself in a political loophole more familiar to peer institutions in some developing world.

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