A Historical Analysis Of Interest Rate Raise And Cuts

The one issue on everyone’s mind right now is: after years of rate rises, when will the Fed finally start cutting rates? The RBI may have to postpone its rate-cutting decision since the Fed has signalled that it is not in a rush to do so. The stock market and economy of India would be impacted by this. Therefore, we stock traders cannot disregard US monetary policy if we hope to gain a better understanding of both the Indian economy and the stock market’s future.

One of the most basic facts is that the inflow of funds, primarily from overseas sources, is what sustains the long-term growth of the Indian stock market. The inflow and outflow of this money will be impacted directly by any future rate cuts or hikes by the Federal Reserve, which will also affect the Indian stock market.

Since everyone knows that there will soon be an economic crisis or at the very least, a depression and that some academics even think one has already occurred, the field of economics is really giving this topic greater attention. The US economy influences the entire world, so naturally, it will have an impact on India as well.

Contrary to popular belief, financial crises do not always start to worsen when interest rates are raised by the Federal Reserve. It typically takes two to four years following a rate increase by the Federal Reserve before a financial crisis occurs. This is because there is initially a large stock of low-interest loans, whether they are business, residential, mortgages, or U.S. debt. These low-interest loan stocks will gradually be replaced by high-interest loans over two or three years, at which point the impact of the Fed’s interest rate hike will become evident in the above image we have constructed a timeline of all the Fed rate hikes since 1980 along with the years when each one caused a crisis. The figure illustrates how nearly every increase in the Federal Reserve rate since 1980 has resulted in a financial crisis.

Read: Financial Bubbles: A Historical Perspective And Lessons Learned

Timeline and impact of Fed action

Between 1980 and 1981, the Fed Funds hiked interest rates to 20% interest rates, and in 1982 the Latin American debt crisis broke out, and South America has never been the same since, with a two-year interval between the rate hike and the crisis

From 1988 to 1989, in the process of Japan’s asset price bubbling madness, the Federal Reserve’s precise interest rate hikes, forced Japan to raise interest rates, bursting Japan’s asset price bubble, and in 1990 Japan’s bubble crisis erupted, with an interval of two years between the interest rate hike and the crisis.

Between 1994 and 1995, the Federal Reserve raised interest rates from 3% to 6%. It entered a cycle of rate hikes in 1995 and then the Asian financial crisis that erupted in 1997, with a three-year interval between the hikes and the crisis.

Between 1998 and 2000, the Federal Reserve raised interest rates from 4.75% to 6%, and then the 2000 Internet bubble crisis erupted, two years apart.

Between 2004 and 2006, the Federal Reserve raised interest rates from 1% to 5.25%. 2007 saw the beginning of a cycle of interest rate cuts before the subprime crisis erupted in 2008, with a four-year interval between the rate hikes and the crisis.

Between 2015 and 2018, the Federal Reserve raised interest rates from 0.25% to 2.5%, and then the global financial markets tumbled in 2018, and in 2019 there was a money crisis in the U.S., forcing the Fed to urgently expand its watch by $500 billion.

When the epidemic broke out in 2020, the Fed printed unlimited money, leading to runaway inflation in the U.S. two years later, and in 2022 the Fed began to raise interest rates aggressively, hiking them from 0.25% to the current 5.5%.

So will this aggressive Fed rate hike trigger a financial crisis?

From a historical perspective, the probability is that it will. We can see that the three interest rate hikes in 1980 1988 1998 were the first hike in interest rates after two years after the outbreak of the financial crisis. But the 1994 interest rate hike, the 1997 Asian financial crisis broke out, from the interest rate hike to the crisis interval of three years. 2004 interest rate hike, the 2008 outbreak of the subprime crisis, from the interest rate hike to the crisis interval of four years, and on the way into the interest rate cuts to the outbreak of the financial crisis.

This illustrates the point that the Fed rate cuts are sometimes not good, the crisis is often accompanied by the Fed rate cuts occur, because of the outbreak of the financial crisis, the Fed will cut interest rates to release water, to the global plumbing assets. So once the Fed began to cut interest rates, on the contrary, means that the danger is coming. We follow the historical projection, there are two crisis paths, one is the first interest rate hike in two years after the outbreak of the financial crisis.

According to this path, the Fed will start to raise interest rates in 2022, and then the world financial crisis is likely to break out in 2024. One is the first interest rate hike after four years after the outbreak of the financial crisis, according to this path, then 2025 to 2026 there is a possibility of the outbreak of the world financial crisis. In addition, from the historical point of view, there are some patterns, such as 1994 and 1998 which raised interest rates to 6% interest rate, and then the outbreak of the crisis. So last year the Fed’s limit for this round of interest rate hikes was the 6% interest rate, and believe that if the Fed raises interest rates to the 6% interest rate, there is a high probability that a more serious financial crisis will erupt.