Fundamental Analysis.

[niczg]

Hay everyone.

I hope you are all well

I wanted to ask a question related to fundamental analysis.

.

Am I right in saying, if USA has an inflation rate of 5%, and its inflation target is 2%.

Then they would need to hike interest rates too get the inflation rate to its target of 2% target. Because hiking interest rates lowers the inflation rate as it reduces consumer spending as it costs more to borrow so spending will be less.

.

Would this be correct or am I getting things mixed up?

Have a great day everyone .

 

[burnout]

Yes. Actually, the US Federal Reserve needs to reduce the amount of currency in circulation to reduce inflation. If there is too much money out there then people get loose with their spending and start competing for products which drives up the prices too fast. (products flying off shelves, gasoline demand, real estate bidding wars, etc).

Increasing interest rates reduces the number/amount of bank loans, which contracts the "money multiplier" effect that loans have on the money supply, which reduces the amount of currency in circulation.

Then there is also Quantitative Tightening they do to reduce the money supply, which is simply to slow down or stop buying altogether the US gov't's debt (Treasury dept's bonds).

In the past, they also required banks to keep a minimum reserve of customer deposits set aside (10% of all deposits) and therefore couldn't be loaned out. (Loaning out customer's deposits has a "money multiplier" effect which expands the money supply.) The US Federal Reserve doesn't mandate banks keep a minimum reserve any more though (since 2020, I think). Instead, they started paying interest on any reserves that banks would voluntarily keep segregated at the Federal Reserve as an incentive to do so. A very effective change in policy, IMO. So simply raising interest rates will have an even greater effect now.

 

[1nvest]

Hay everyone.

I hope you are all well

I wanted to ask a question related to fundamental analysis.

.

Am I right in saying, if USA has an inflation rate of 5%, and its inflation target is 2%.

Then they would need to hike interest rates too get the inflation rate to its target of 2% target. Because hiking interest rates lowers the inflation rate as it reduces consumer spending as it costs more to borrow so spending will be less.

.

Would this be correct or am I getting things mixed up?

Have a great day everyone .

Hi Nic, theoretically yes.
However you also have to recognise that the US has been doing just that since April 2022. and has been raising interest rates consistently since then. Inflation in the US is currently sitting at just over 3%, down from an average high of 8% in 2022. and its forecast for next year to be in the region of 3%
So currently, had inflation just popped to 5% then yes they would be doing something about it. but given that inflation is coming down, and their fiscal policy is paying off its unlikely they will raise any more. Next week they are likely to leave rates as they are...and may even look to possibly reduce interest rates next year.
The chances of them raising interest rates again is somewhat slim, unless inflation does begin to creep up again. time will tell

 

[niczg]

Hi Nic, theoretically yes.
However you also have to recognise that the US has been doing just that since April 2022. and has been raising interest rates consistently since then. Inflation in the US is currently sitting at just over 3%, down from an average high of 8% in 2022. and its forecast for next year to be in the region of 3%
So currently, had inflation just popped to 5% then yes they would be doing something about it. but given that inflation is coming down, and their fiscal policy is paying off its unlikely they will raise any more. Next week they are likely to leave rates as they are...and may even look to possibly reduce interest rates next year.
The chances of them raising interest rates again is somewhat slim, unless inflation does begin to creep up again. time will tell

Thank you 1nvest for the explanation, it was very easy to understand now that you explained it.

 

[niczg]

Yes. Actually, the US Federal Reserve needs to reduce the amount of currency in circulation to reduce inflation. If there is too much money out there then people get loose with their spending and start competing for products which drives up the prices too fast. (products flying off shelves, gasoline demand, real estate bidding wars, etc).

Increasing interest rates reduces the number/amount of bank loans, which contracts the "money multiplier" effect that loans have on the money supply, which reduces the amount of currency in circulation.

Then there is also Quantitative Tightening they do to reduce the money supply, which is simply to slow down or stop buying altogether the US gov't's debt (Treasury dept's bonds).

In the past, they also required banks to keep a minimum reserve of customer deposits set aside (10% of all deposits) and therefore couldn't be loaned out. (Loaning out customer's deposits has a "money multiplier" effect which expands the money supply.) The US Federal Reserve doesn't mandate banks keep a minimum reserve any more though (since 2020, I think). Instead, they started paying interest on any reserves that banks would voluntarily keep segregated at the Federal Reserve as an incentive to do so. A very effective change in policy, IMO. So simply raising interest rates will have an even greater effect now.

Thank you Burnout.

Fantastic explanation Burnout.

I will definetly remember this throughout my trading journey.