The Federal Reserve has waited too long to fight inflation, and now risks plunging the economy into recession, according to a leading economist at Bank of America. After raising the central bank’s interest rate by 75 basis points on Wednesday, BofA global economist Ethan Harris said the Fed was forced to take such aggressive action because of inflation, which is now booming since late 1981. “Our worst fears about the Fed have been confirmed: they are far behind the curve and are now playing a dangerous game of catching up,” Harris said in a customer note on Friday. “We expect GDP growth to slow to almost zero, inflation to be around 3% and the Fed to raise interest rates above 4%.” Harris has not yet predicted a recession, but said the likelihood of this happening in 2023 has increased to 40%. Gross domestic product fell 1.5 percent in the first quarter, and the Atlanta Federal Reserve expects the second quarter to be equal. Consecutive quarters of negative growth are considered a rule of recession, although the National Bureau of Economic Research says it uses other factors before making an official statement. Along with the rate hike, Fed officials said the fund’s interest rate would end the year at about 3.4 percent, up 1.5 percentage points from the March forecast. Politicians still believe that GDP will grow by about 1.7% this year, but that would mean a significant drop of 5.7% in 2021. Harris said the scenario developed in a similar way to a warning issued by the bank more than a year ago. “In the spring of 2021, we argued that the biggest risk to the US economy was a boom and bust scenario. We are worried that the Fed will take too long to stop,” he said. “We asked, if the fiscal authorities are doing so much incentive, why should the Fed add fuel to the fire with an unusually late normalization of policy? Over time, the boom-crash scenario has become our baseline forecast.” In November, Harris said he wondered “whether the Fed will ever take the fight against inflation seriously.” Separate publications on Friday confirmed the Fed’s verbal commitment to fight escalating prices. President Jerome Powell has promised that the Fed is “sharply focused” on inflation, while a Fed report to Congress on monetary policy says the approach will be “unconditional”. Although Harris said the Fed is in a better position to raise interest rates, he believes he will have to go further than the “chart” of individual members’ expectations shows. The chart points to an average expectation of 3.8% interest rate by the end of 2023, but BofA is looking for just over 4%. Five of the Fed’s 18 employees in the chart this week indicated a rate above 4%. The chart then shows one or two interest rate cuts in 2024 to return the funds’ interest rate to 3.4% before settling at a long-term rate of 2.5%. “Where we disagree with both the Fed and the markets is the idea that the Fed will cut in 2024,” Harris wrote. “This is certainly possible if there is a complete recession. However, our baseline forecast suggests that the Fed will be like a deer in the headlights: uncertain whether to respond to very weak growth or still high inflation.”
The Bank of America economist says his “worst fears about the Fed have been confirmed”
