UK and US Share Challenges

While the S&P 500 is currently flirting with bear market territory, as it nears a 20% drop from its peak, the Fed is currently trying to engineer a soft landing for an overheated economy: Slowed growth but not a recession, with reduced inflation but not surging unemployment. AllianceBernstein’s Eric Winograd notes that current events in the United Kingdom may provide a preview for Fed challenges in the coming months.

The Bank of England (BOE) raised its benchmark rate by 25bp, to 1%, but it faces a dilemma going forward. The BOE projects inflation to peak at more than 10% in Q4 2022, which would typically call for an aggressive rate response. However, BOE projections also show the UK economy contracting in 2023, and expanding marginally in 2024. The BOE is in an ugly situation - does it raise rates and exacerbate what is already a poor growth outlook, or lower rates and allow high inflation to continue?

The situation in the US is similar, if not so dire. AllianceBernstein expects slowing growth and above normal inflation for the remainder of the year. The Fed has had more room to be aggressive and is likely to avail itself of the opportunity for additional 25-50bp federal fund rate increases over the coming months. Within the next year or so, we would expect the Fed to struggle with the same decisions facing the BOE now - raise rates and risk recession, or halt rate hikes and hope that inflation momentum continues to cool. For now, the Fed can continue to normalize rates to the 2-3% range and watch and observe how economic conditions respond. Perhaps the Fed will get lucky and inflation will be dissipating rapidly. If not, Fed consensus will be more difficult to maintain, as hawks and doves debate how much to prioritize above-target inflation versus growth and unemployment concerns, and we shall see whether the rate increases we’ve witnessed so far represent a beginning of the end or an end of the beginning.

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This material is not intended as an offer or solicitation for the purchase or sale of any financial instrument or investment strategy. This material has been prepared for informational purposes only, and is not intended to be or interpreted as a recommendation. Any forecasts contained herein are for illustrative purposes only and are not to be relied upon as advice.