The Fed's monetary policy has lost some of its potency and interest rates may need to rise much higher as a result, economist says

If he’s right, then it means the central bank will likely need to hike interest rates much higher than it otherwise would have, potentially sparking another selloff in stocks and bonds.

The Fed last raised its policy interest rate target to a range of 5.25% to 5.5% at its July policy meeting, the highest level since 2001. Since Powell’s speech on Friday futures traders are pricing in a higher possibility that the central bank will deliver another interest rate hike, perhaps in December.

While inflation has fallen since the summer of 2022, the U.S. economy has remained surprisingly resilient. According to Koo, this isn’t an accident, but a symptom of how the Fed’s pre-pandemic era policies have permanently changed the U.S. financial system. Data from the Federal Reserve Bank of St. Louis showed bank reserves parked at Fed branches stood at just under $3.2 trillion as of Aug. 23. New data are released weekly. By comparison, reserves amounted to $5.7 billion in December 2007.

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