It finally happened! Everyone thought that the fed is
laughing and it wouldn't raise rates! Because at this point it was clear that
raising rates will only create a recession. The world is still suffering from the pandemic.
Entire cities in China are a lockdown which is causing a shortage of products in the market.
The fed was willing to swallow an 8 percent inflation instead of stopping the economic
wheel. However, the absolute opposite has happened. No one expected the fed
to raise the rates by 0.5 percent. It’s the biggest spike in 22 years.
The only reason that it probably did that is that inflation was seriously getting out of hand.
Inflation is not a joke. Take a look at countries who didn't take inflation seriously.
They have destoryed their economies from Weimar republic in 1920s to Veneziella in 2013.
But the worst one was in Hungary in 1946 right after the second world war. At some point
inflation reached 13,600,000,000,000,000%, that's a lot of zeros. Prices doubled every 15.6 hours.
Imagine your Starbucks coffee more than doubles every morning. How would you set prices, salaries,
or taxes? The economy stops functioning, people lose faith in the currency. They start bartering,
exchanging goods for goods since no one knows how much the currency would be worth tomorrow.
If you owned a business, would you sell candy for a dollar or two? how do you save money? There are
millions of questions that need to be answered. Your savings by the next day would lose half of
their value. I mean, if an 8 percent inflation rate already caused such a big problem.
Imagine what happens if it's just over a 100 percent, leave alone with so many
zeros (13,600,000,000,000,000%). During the height of hyperinflation, Hungary’s highest denomination
bill was the 100,000,000,000,000,000,000 (One Hundred Quintillion) pengo, compared to 1944s
highest denomination, 1,000 pengos. So, it's far better to have a short recession
than let inflation get out of hand. The question is - why raising
rates is so important? You see, the modern economy
is entirely based on debt. The fed has absolute authority over the economy since its the source
of the dollar. It creates the dollar and lends it to financial institutions such as banks and
then the banks would lend them to businesses or individuals in form of mortgages or student loans.
The moment the fed raises rates, banks will have to raise their rates as well
which will make borrowing more expensive which means fewer people will be able to borrow money.
With a 50K dollar salary, you are eligible for a much bigger loan if interest rates are 3 percent
than at 6 percent. Which means when interest rates are raised, less money will flow into the economy,
which will slow down the economy and vice versa. The economy goes through cycles.
It starts with an expansion period, keeps growing until it peaks somewhere at the top,
and then slowly starts cooling down and eventually
falls into a recession and even a depression in some cases when the recession lasts too long.
Once it reaches its bottom line, it starts growing again, it returns back to
the expansion period until it peaks again, and the same cycle happens over and over.
What matters is if the cycle overall keeps moving upward. A year before the pandemic, the economy
has reached its peak, it was just waiting for something to pull it into a recession which
was the pandemic. In fact, it was the longest economic expansion in the history of the US. The
last recession wasn't as bad as it could possibly be since the fed went beyond its limit by throwing
literally trillions of dollars into the economy, the only downside was that we quickly got out of
the crisis and have reached the peak again since inflation now is growing faster than the economy.
Haven’t you seen how asset prices such as stocks, houses, or even crypto rose so
dramatically in such a short period of time. The last 2 years were absolutely heaven for
crypto and tech stocks. I mean some stocks doubled over such a short period of time.
And how do we know that we have reached the peak? Inflation is growing faster than the economy
and getting out of hand. That’s why the fed raised the rates in the first place.
0.75 percent isn’t really super high since back in 2019 when the economy reached its peak,
the fed raised the rates to 2.4 percent. So, what's going to happen over the course of the next
couple of years is that the fed will most likely keep raising rates to stabilize the economy.
I guess such an aggressive action from the fed was to let everyone know that the fed is ready to
take any necessary action to slow down inflation and isn't just laughing since most people were
confident that it wouldn't dare to do so. And now the question is, how will that
impact the stock market, real estate, or crypto? The answer is pretty simple and straightforward.
A rise in interest rates will reduce the demand which will inevitably lead prices to fall.
Bitcoin is already down by over 9 percent at the time of this script and it might fall
further by the time the video is out. The sp500 is down by 4 percent and the Dow Jones by 3.4%.
That doesn’t mean they will keep falling but there is definitely going to be less money flowing
into volatile assets such as crypto, or tech stocks. The stocks that seemed like there are
going to shoot to the moon will begin to slow down, and the companies that suppose
to go bankrupt during the pandemic will finally face the reality where they will have to grow
without the fed’s cheap money. So, it's absolutely normal to see some stocks to dwindle.
Will that stop inflation? well, the answer is both yes and now.
First of all, that’s for sure is going to impact house prices for example.
Just imagine for a moment what's gonna happen to mortgage rates. They are going to be so expensive
that people would rather choose to rent than buy which means prices will begin to fall.
How much they will fall is remain to be seen. But a housing crisis to a certain degree is possible,
however with such a shortage of houses in the market, no one really knows what to expect.
But at the same time, not all inflation is a result of the fed’s actions.
The5 0.5 percent increase in rates isn't going to bring down gas prices since they are mostly
settled by OPEC, an organization of exporting petroleum countries that control the demand
and supply of oil in the market, and the war in Ukraine that's creating scarcity in the market
which is leading to such high gas prices which are causing inflation worldwide.
But what worries me the most is that its going to lead to a recession. The pandemic crashed
supply chains, destroyed what companies have been building for decades and now higher rates mean,
these companies will have fewer resources to res tore what they have built. When the budget
shrinks, companies will have to cut expenses, which can easily lead to higher unemployment since
wages are the biggest expense for most companies. The consequences aren't going to be clear
immediately, it's going to take some time because 0.75 percent
isn't 5.25 percent like it was in 2007. It's easy to criticize the fed but it's
not easy to manage such a crisis. On one side, we just got out of the pandemic that's not over yet,
on the other side, there is an entire war taking place in Europe (russia/ukraine) which
is causing oil prices to shoot to the moon and that is raising prices for everything from the
cost of driving your car to your groceries. Thanks for watching and see you in the next one.