Unlike many other economies, the U.S. doesn’t respond directly to changes in short-term interest rates, Dudley said, partly because most U.S. home buyers have long-term, fixed-rate mortgages. But many U.S. households, also in contrast to other countries, have a significant amount of their wealth in equities, which makes them sensitive to financial conditions.
Dudley’s call for the Fed to inflict losses on investors stands in contrast to the longstanding notion of a figurative Fed put, the idea that the central bank would halt monetary tightening or otherwise ride to the rescue in the event of heavy losses in financial markets. Dudley, who ran the New York Fed from 2009 to 2018, was previously chief U.S. economist at Goldman Sachs and is now a senior research scholar at Princeton University’s Center for Economic Policy Studies.
“If this doesn’t happen on its own (which seems unlikely), the Fed will have to shock the market to achieve the desired reponse,” Dudley said. That would mean hiking rates much higher than market participants currently anticipate because the Fed, “one way or another, to get inflation under control…will need to push bond yields higher and stock prices lower.”
They’re going to pull it. How much it drops is anyone’s guess but there is no Fed Put so they’re going to let it drop.