What I See for 2022: Interest Rates, Mortgage Rates, Real Estate, Stocks & Other Assets as Central Banks Face Raging Inflation

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by Wolf Richter, Wolf Street:

An extra-special cocktail of three powerful ingredients with no cherry on top awaits us in 2022.

Super-inflated asset prices such as housing, stocks, and bonds; massive inflation; and central banks that have started to react.

Many central banks have started pushing up interest rates; others have ended asset purchases. And Quantitative Tightening (QT) – central banks shedding assets – is on the table.

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Rising interest rates in the US won’t catch up with raging inflation in 2022 – CPI inflation is now 6.8%, the highest in 40 years.

But unlike 40 years ago, inflation is now on the way up. In the early 1980s, it was starting to head down. We need to compare the current situation to the 1970s, when inflation was spiraling higher. So we’re entering a new environment where the economy will be doing things we haven’t seen in many decades. It will be a new ballgame for just about everyone.

As is always the case, the year-over-year inflation figures will fluctuate. CPI could go over 7% or 8% and then fall back to 5% only to jump again, providing moments of false hopes – as they did during the waves of inflation in the 1970s – only to race even higher.

Inflation has now spread deep into the economy, with services inflation picking up, and there are no supply-chain bottle necks involved. This includes the inflation measures for housing costs. Those housing inflation measures have begun to surge.

We know that the figures for housing inflation, which account for about one-third of total CPI, will surge further in 2022, based on housing data that we saw in 2021, and that is now slowly getting picked up by the inflation indices. They started heading higher in mid-2021 from very low levels, and they’re going to be red-hot in 2022.

This is inflation is fueled by enormous monetary and fiscal stimulus, globally, but particularly in the US – with nearly $5 trillion in money-printing since March 2020, and over $5 trillion in government spending of borrowed money.

The stimulus has broken price resistance among businesses and consumers. Enough businesses and consumers are willing to pay even the craziest prices – a sign that the inflationary mindset has taken over for the first time in decades. All this stimulus has broken the dam.

Inflation is not going away until central banks remove the fuel via QT to allow long-term interest rates to rise, and by pushing up short-term interest rates via rate hikes, and until these policy actions are drastic enough to shut down the inflationary mindset and reestablish price resistance among businesses and consumers.

Central banks around the world react.

The Bank of Japan ended QE in May 2021 – the longest-running money-printer has stopped printing money.

The Fed started tapering QE in November and doubled the speed of the taper in December. If it doesn’t accelerate it further, QE will end in March.

The Bank of Canada ended QE in October. The Bank of England ended QE in December. The ECB announced that it would cut its huge QE program in half by March. Several smaller central banks that did QE have ended it.

Central banks in developed markets already hiked rates:

  • The Bank of England: by 15 basis points, in December, for liftoff.
  • The National Bank of Poland: three hikes, totaling 165 basis points, to 1.75%.
  • The Czech National Bank: five times by a total of 350 basis points, to 3.75%.
  • Norway’s Norges Bank: for the second time, by a total of 50 basis points, to 0.5%.
  • The National Bank of Hungary: many small hikes totaling 180 basis points, to 2.4%.
  • The Bank of Korea: twice, by 50 basis points total, to 1.0%.
  • The Reserve Bank of New Zealand: twice, by 50 basis points total, to 0.75%.
  • The Central Bank of Iceland: four times, by 125 basis points in total, to 2.0%.

Central banks in developing markets have been much more aggressive in hiking rates to get inflation under control and protect their currencies; a plunge in their currencies would make dollar-funding very difficult. They’re trying to stay well ahead of the Fed. Among them:

  • The Central Bank of Russia: seven times, totaling 425 basis points, to 8.5%.
  • The Bank of Brazil: multiple huge rate hikes, by 725 basis points since March, to 9.25%.
  • The Bank of the Republic (Colombia): three hikes totaling 125 basis points, to 3.0%.
  • The Bank of Mexico: five hikes, totaling 150 basis points, to 5.5%.
  • The Central Bank of Chile: four hikes, 350 basis points in total, to 4.0%.
  • The State Bank of Pakistan: three hikes, totaling 275 basis points, to 9.75%.
  • The Central Bank of Armenia: seven hikes, totaling 350 basis points, to 7.75%.
  • The Central Reserve Bank of Peru: five hikes, totaling 225 basis points, to 2.5%.

There are some exceptions, particularly Turkey, which has embarked on an all-out effort to destroy its currency via inflation and is succeeding in doing so by cutting rates. Over the year 2021, the lira has collapsed by nearly 80% against the dollar, with inflation raging at over 20%.

But in the US in my lifetime, there has never been a toxic combination of interest-rate repression to near-0%, amid 6.8% inflation, as the Fed’s money-printing continues for now.

In 2022, the Fed begins to unwind this phenomenon far faster than expected months ago.

Long-term interest rates cannot move much higher until the Fed ends its QE program, which was designed to repress interest rates. The end of QE is scheduled for March.

Beyond that, long-term interest rates cannot seriously rise until the Fed’s balance sheet declines. This happens when the Fed allows maturing securities to roll off without replacement. At the last meeting, Powell informed markets that the Fed is now discussing QT.

At every Fed meeting, the process has sped up. Over the past few meetings, the Fed suggestions went from no rate hikes in 2022, to three hikes in December. It went from not even discussing the end of QE to accelerating the end of QE. And it went from QT being unthinkable in 2022, to it already being discussed in December 2021. The Fed is preparing the markets for these shifts.

And this trend of speeding up the process is likely to continue in 2022.

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