The Fed is unable to celebrate as investors expect interest rates and inflation to remain high

If they had been offered today’s economy a year ago – with inflation downgraded from state of emergency to mere headaches, unemployment still low and growth slowing without faltering – the top central bankers of the world took it like a try.

That doesn’t mean anyone in Jackson Hole, where Federal Reserve Chairman Jerome Powell and his colleagues are meeting this week, is likely to say mission accomplished.

As an example of the fragile backdrop to this year’s meeting, even in the US, which boasts the rosiest numbers of any major economy, two-thirds of 602 respondents to Bloomberg’s latest Markets Live Pulse poll say the Fed has yet to overcome inflation.

Powell and company cannot be sure that they have raised interest rates high enough to bring prices down. They are even less aware of how long policymakers need to stick with tightening policies – which is increasingly the dominant issue for financial markets. Over 80% of respondents said Powell’s Jackson Hole speech will reinforce the message of a restrictive stance.

“We could see ourselves in this benchmark risk-free 5 percent rate environment for the foreseeable future — maybe mid-2024 or beyond,” said Jerome Schneider, head of short-term portfolio management and financing at Pacific Investment Management. which manages assets of $1.8 trillion.

Global government bond yields have already risen to their highest levels in more than a decade – with benchmark 10-year bond rates hitting as much as 4.33% in the US and 4.75% in the UK this month – fueling the Jackson Hole Crew Expectations Springs I’m not done hiking yet.

If these bets are valid, few parts of the financial world will be spared the consequences.

“Basically, if markets assumed interest rates would be higher for an extended period of time, they would discount future earnings more, which would cause stock prices to adjust,” said Gian Maria Milesi-Ferretti, a senior fellow at the Brookings Institution and former Associate Research Associate Director at the International Monetary Fund. Also, “it could be that more companies will be marginalized by a rise in debt servicing costs.”

Even without further rate hikes, the monetary policies already provided by central banks could have the delayed effect of slowing economies or blowing up even more banks.

About 80% of MLIV Pulse respondents expect a recession in the euro area in the coming year. Most forecasters are more optimistic – but Germany, Europe’s largest economy, has already suffered a winter slowdown and has little growth prospects for the rest of the year.

For the US, the survey revealed an exact 50:50 split in terms of the likelihood of a downturn over the next 12 months. More than half of those surveyed said the turmoil in financial markets was likely to trigger the Fed’s next rate cut, rather than weakness in the labor market or slowing inflation.

In the US, markets see a very good chance that central bank interest rates have already peaked. This is not the case elsewhere.

The UK has the world’s worst inflation rate – with high energy prices like in continental Europe and rising wages like in the US – which means the Bank of England has more work to do. In Japan, new central bank governor Kazuo Ueda is showing signs of returning to the mainstream of monetary policy somewhat faster than expected.

Following the European Central Bank’s last rate hike in July, President Christine Lagarde said the region’s near-term economic outlook had deteriorated and subsequent ECB research suggests underlying inflation may have peaked. Lagarde’s Jackson Hole speech could provide the first clues after the European summer break as to whether policymakers are leaning towards another rate hike or a pause.

For both the Fed and the ECB, how long is on track to replace how high as a key question.

“That’s really what I think Chairman Powell is going to focus on,” Lindsey Piegza — chief economist at Stifel Financial — told Bloomberg Television last week when speaking at the Jackson Hole meeting. “How long does the Fed have to keep rates at this elevated level?”

At the ECB, ECB Executive Board member Fabio Panetta – one of the bank’s doves – said this month that “perseverance is becoming as important as the level of our interest rates,” echoing other European currency heavyweights. It is thought that bringing borrowing costs down to less elevated levels but staying at those levels longer could minimize the damage to the economy and increase the likelihood of a soft landing, which central bankers everywhere are aiming for.

Either way, there is no sign of a reduction in European borrowing costs in the foreseeable future. About 30% of MLIV survey respondents said that won’t happen until at least the fourth quarter of next year, compared to just 21% who said the same about the Fed.

Of course, much of this debate is based on textbook monetary policy calculations that could easily go haywire.

For example, there is growing concern that a downturn in China will send shock waves through the global economy. Russia’s war in Ukraine still has the potential to create turmoil in commodity markets. Unprecedented US budget deficits are worrying investors in the $25 trillion financial market, and Europe has just been hit by another surge in energy prices.

“The economy surprised positively, inflation negatively,” says Milesi-Ferretti. “It’s obviously looking a lot better than it did a few months ago. But we really don’t know.”