Ultimate magazine theme for WordPress.

Impact of tapering on the economy in 2022: Less liquidity, more volatility

From Carjuan Cruz

Investing.com – Although 2022 began with another wave of Covid-19 cases, with the new and more contagious variant of Omicron, the market appears confident that the impact on the economy will be small.

For now, it is unlikely to reverse the policy announced by the US Federal Reserve regarding the speedy end of tapering and the possibility of three rate hikes during the year, although concerns about the hike persist in the event of infections, especially due to possible ones Lost work.

In any case, the now more aggressive reduction in tapering means the reduction in monetary liquidity, which has increased so dramatically during the pandemic. And along with the effects of less monetary stimulus, the likely rate hike will materialize.

José Gonzales, managing partner of GCG Advisors, a financial advisory firm based in New York, told Investing.com the immediate effects on the economy, particularly on the financial system and consumption.

Investing.com: What are the possible effects of accelerated rejuvenation?

Jose Gonzales: At first glance, they do not seem to exist for the financial markets. Despite a certain volatility in the daily trading behavior of stocks, bonds, commodities and cryptocurrencies, which is nothing unusual in the thin markets at the end of the year, the markets apparently try to ignore the logic of what a decline in monetary liquidity they would have been used to since 2008, and instead the markets continue to hit record levels.

However, the effect could be a “momentum” in that the reduction in liquidity should actually affect what Thomas Hoenig, former President of the Kansas Federal Reserve, calls the “allocative effect” or the amount of financial resources in financial assets placed in a “zero rate” environment creating “asset inflation” commonly known as “bubbles”.

The story goes on

IC: How will this decline in liquidity affect the economy?

JG: We are already seeing it in the volatility of financial investments, the pressure on interest rates, the fall in commodity prices, the strengthening of the dollar and, if the Fed’s tightening strategy is successful, the easing of inflationary pressures.

The latter, however, will depend not only on the reduction in liquidity, but also on the disintegration of the logistical nodes in the supply chains that have put pressure on supply-side inflation. This, in turn, has been made more difficult by a structural shift in global demand, with the pandemic causing a shift from demand for services to demand for goods.

IC: How could it affect the financial system?

JG: It depends on the size and strength of the balance sheet of each financial institution, since a decrease in liquidity and an increase in interest rates favor financial intermediation, as long as the bank’s assets as such persist and are not affected by their deterioration in relation to its liabilities.

In general, North American and developed banks, as well as banks in emerging markets like China, are pretty solid and shouldn’t have any major problems. This may not be the case in countries with balance of payments problems or consumer credit risk with deteriorated income distribution.

In the case of the United States, however, the Fed has created an equalization mechanism for banks in which the reduction in quantitative easing is accompanied by a significant expansion of repo transactions (repurchase agreement).

IC: Could consumption slow down, especially as supply recovers?

JG: This is certainly one of the risks, but the Fed, the Bank of England and the ECB have all established that inflation, no longer considered “temporary”, is such a risk that it is necessary to start through Reduce monetary aid and increase interest rates.

The only major central bank doing the opposite is the People’s Bank of China, which is cutting rates; However, the Chinese government’s economic policy discretion is unprecedented in the West.

IC: If the first rate hike happens in March and then the other two rate hikes come later in the year, will there be more positive effects than negative effects?

JG: Undoubtedly positive as it eases the inflationary pressures created by the increase in liquidity from monetary and tax aid, the main risk being to affect the post-Covid economic recovery, which remains uncertain through 2023 and which in turn affects financial markets that served as a barometer and stimulus for business confidence and retail consumption in developed countries during the pandemic.

Also Read: The Coming Year: 6 Trends To Watch Out For In 2022

Check out our full Outlook 2022 series here.

Related articles

Impact of tapering on the economy in 2022: Less liquidity, more volatility

Indian court puts arbitration between Amazon and Future on hold

China will ensure stable economic growth in the first quarter, says Prime Minister

Comments are closed.