Round and Round with Monetary Policy Cycles.
For those of you that follow the U.S. dollar and economy (and that should be all of you!), remember a few years back when the Fed increased interest rates by 10% out of the blue?
It was the craziest thing to come out of the Fed ever, and the financial world was in an uproar!
Wait, you don’t remember this happening?
It was all over the media.
Petroleum prices went through the roof and milk was priced like gold.
You must have been sleeping!
Oh, wait, we were just pulling your leg!
We just wanted to make sure you were still awake. Monetary policy would never dramatically change like that.
Most policy changes are made in small, incremental adjustments because the bigwigs at the central banks would have utter chaos on their hands if interest rates changed radically.
Just the idea of something like that happening would disrupt not only the individual trader but the economy as a whole.
That’s why we normally see interest rate changes of .25% to 1% at a time. Again, remember that central banks want price stability, not shock and awe.
Part of this stability comes with the amount of time needed to make these interest rate changes happen. It can take several months to even several years.
Just like forex traders who collect and study data to make their next move, central bankers do a similar job, but they have to focus their decision-making with the entire economy in mind, not just a single trade.
Interest rate hikes can be like stepping on the brakes while interest rate cuts can be like hitting the accelerator but bear in mind that consumers and businesses react a little more slowly to these changes.
This lag time between the change in monetary policy and the actual effect on the economy can take one to two years.
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