- On 15 June the Federal Reserve raised rates by 0.75 points, the biggest rise since 1994.
- It did so after an inflation reading worse than expected: it was prepared to slow the economy to contain prices.
- Risk assets, from stocks to crypto-assets, felt it immediately: it is worth knowing how much risk one really holds in a portfolio.
On 15 June 2022 the Federal Reserve raised interest rates by 0.75 points, the biggest rise since 1994, after an inflation reading worse than expected. Two months earlier, the central bank had raised rates by half a point; now the pace was accelerating again. It was the clearest signal yet that the absolute priority was to control prices, even at the expense of growth.
A rise of this size is not a routine decision. It is taken when the central bank considers that conditions require it, and it tells all economic agents that monetary policy has entered a much more restrictive phase. For companies, investors and families in any country, it matters because the dollar and US rates condition the cost of money and the behaviour of markets around the world.
A reading worse than forecast
Central banks adjust their decisions to the data they learn. Inflation worse than expected indicates that earlier rises were not enough, and pushes them to act more forcefully to prevent expectations of high prices from becoming entrenched in the economy. It is, in a way, a correction: the central bank adjusts its strategy when the facts contradict its forecasts.
Expectations matter a great deal: if companies and workers assume that prices will keep rising, they adjust their own prices and wages accordingly, and that feeds inflation by itself. Central banks try to prevent it with visible, forceful action. That is why a bad figure can provoke a larger reaction than foreseen, and why it is better to follow the data than isolated statements.
Slowing the economy to contain prices
The message was unequivocal: the Fed was prepared to slow the economy to contain prices. This means accepting a cost, in the form of lower growth, potentially higher unemployment and dearer credit, in exchange for restoring price stability in the medium term. The key word is ‘cost’: no restrictive monetary policy is free, and whoever applies it accepts that there will be negative effects in the short term.
It is a difficult balance, and nobody can guarantee it will turn out well. If tightening is too mild, inflation persists; if it is excessive, activity falls more than is desirable. Families and companies do not control that decision, but they can prepare for an environment of weaker growth and dearer financing by reviewing budgets, collection periods and safety margins. The most exposed companies are those that depend on external financing and those that sell durable goods, which are usually the first to notice a cooling in demand.
The effect on risk assets
Risk assets, from stocks to crypto-assets, felt it immediately. When rates rise quickly, money tends to leave the most volatile assets for safer options, and each investor should know how much risk they really hold in their portfolio and whether that level is still suitable for their situation. If the portfolio includes assets of differing risk, it is worth knowing what share each represents and how it behaved in the recent falls.
A good exercise is to ask how far the portfolio could fall in an adverse scenario and whether that fall would be tolerable without having to sell. If the answer is no, the risk may be greater than desired and worth reviewing calmly, not in a hurry. This note is general information and not investment advice; the decision must be adapted to each person’s goals and horizon.
High rates are felt not only in loans: they are felt in the price of almost everything.
This article is general information. It is not legal, tax or investment advice, and it does not take anyone’s particular circumstances into account.
