Will the next Fed tightening cause the market to collapse?

U.S. stocks traded higher in 2021 despite a hawkish surprise from the Fed during the latter part of the year. Can stocks still rebound despite a hawkish Fed?

As the Fed has started to tighten financial conditions, the stock market rally continues. This week, the S&P 500 hit a new all-time high, although the Fed began cutting its asset purchases from $ 120 billion to $ 105 billion in December.

Quantitative easing has been the main reason actions moved forward during the pandemic. Why are they still doing it when the Fed is unraveling it?

Here are three reasons to tone down the Fed’s actions in 2022: The balance sheet continues to grow, little experience with inflation and the rising stock market.

Few people with inflation experience

The Fed became even more hawkish in December than market participants thought. Faced with high inflation for four decades, the Fed announced that it had doubled the pace of its asset purchases.

This year, everything was lacking, and the prices of goods and services accelerated. Many factors have added to the pressure on prices, such as vacancies or ships waiting in ports. With the pressures to ease, inflation will eventually return to 2% -2.5% in 2022. In any case, few people have had any experience with inflation in the financial sector, including at the Fed. surprising decisions should therefore not be ruled out.

The balance sheet continues to grow

Despite the tapering, the toll has increased. After all, tapering still means buying assets, albeit at a slower pace. But the balance sheet rose by $ 140 billion in the first 23 days of December, far more than the previous pace of quantitative easing.

Many factors led to such an expansion, such as maturities, but the point is that financial conditions have eased even more despite the tapering. Therefore, stocks are expected to remain bidding until next year.

The Fed is unlikely to tighten too quickly

Speaking of stocks, the Fed is unlikely to tighten too quickly if the stock market shows signs of exhaustion. A rising stock market increases the wealth effect and contributes to economic growth. The Fed could therefore tighten financial conditions in 2022, but it will not risk doing so too quickly so as not to jeopardize the progress made in 2021.

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