Are Fed rate hikes sparking a US boom?
As the US economy hums along month after month, minting hundreds of thousands of new jobs and confounding experts who had warned of an imminent downturn, some on Wall Street are starting to entertain a fringe economic theory.
What if, they ask, all those interest rate hikes the past two years are actually boosting the economy? In other words, maybe the economy isn’t booming despite higher rates but rather because of them.
It’s an idea so radical that in mainstream academic and financial circles, it borders on heresy—the sort of thing that in the past only Turkey’s populist president, Recep Tayyip Erdogan, or the most zealous disciples of Modern Monetary Theory would dare utter publicly.
But the new converts— along with a handful who confess to being at least curious about the idea—say the economic evidence is becoming impossible to ignore. By some key gauges—GDP, unemployment, corporate profits—the expansion now is as strong or even stronger than it was when the Federal Reserve (Fed) first began lifting rates.
This is, the contrarians argue, because the jump in benchmark rates from 0% to over 5% is providing Americans with a significant stream of income from their bond investments and savings accounts for the first time in two decades. “The reality is people have more money,” says Kevin Muir, a former derivatives trader at RBC Capital Markets who now writes an investing newsletter called The MacroTourist.
These people—and companies—are in turn spending a big enough chunk of that newfound cash, the theory goes, to drive up demand and goose growth.
In a typical rate-hiking cycle, the additional spending from this group isn’t nearly enough to match the drop in demand from those who stop borrowing money. That’s what causes the classic Fed-induced downturn (and corresponding decline in inflation). Everyone was expecting the economy to follow that pattern and “slow precipitously,” Muir says. “I’m like no, it’s probably more balanced and might even be slightly stimulative.”
Muir and the rest of the contrarians—Greenlight Capital’s David Einhorn is the most high profile of them—say it’s different this time for a few reasons. Principal among them is the impact of exploding US budget deficits. The government’s debt has ballooned to $35 trillion, double what it was just a decade ago. That means those higher interest rates it’s now paying on the debt translate into an additional $50 billion or so flowing into the pockets of American (and foreign) bond investors each month.
That this phenomenon made rising rates stimulative, not restrictive, became obvious to the economist Warren Mosler many years ago. But as one of the most vocal advocates of Modern Monetary Theory, or MMT, his interpretation was long dismissed as the preachings of an eccentric crusader. So there’s a little sense of vindication for Mosler as he watches some of the mainstream crowd come around now. “I’ve been certainly talking about this for a very long time,” he says.
Muir readily admits to being one of those who had snickered at Mosler years ago. “I was like, you’re insane. That makes no sense.” But when the economy took off after the pandemic, he decided to take a closer look at the numbers and, to his surprise, concluded Mosler was right.