Here are 3 ways the Fed messed up since 2021 and how it's impacting the economy, according to UBS

Matthew Fox

Wed, Jul 26, 2023, 9:44 PM 3 min read

The Federal Reserve has made three big mistakes since inflation took off in 2021, according to UBS.
The Fed's policy errors have led to a loss of credibility with investors and will impact the broader economy, the bank said.
"Today's rate hike will probably have to be reversed in a relatively short space of time," UBS said.

The Federal Reserve has done a lousy job navigating the surge in inflation over the past two years, according to UBS Global Wealth Management's chief economist, Paul Donovan.

In a note to clients on Wednesday, Donovan said that the Fed has made three big mistakes since inflation broke out and it began hiking interest rates, and those mistakes will have an impact on the broader economy.

Fed chairman Jerome Powell hiked interest rates again on Wednesday, raising its benchmark rate by 25 basis points to a range of 5.25%-5.50%, representing a 22-year high in the fed funds rate.

"Today's rate hike will probably have to be reversed in a relatively short space of time" because "the damage of the recent tightening policy has yet to take full effect in the US economy," Donovan said. Today's additional rate hike from the Fed gets to the root of what has went wrong.

These are the three big mistakes made by the Fed over the past two years, and how it will impact the economy, according to UBS.

1. "The Fed failed to communicate"

"Fed policy spin has been terrible... Spin is what counts. The Fed started well, describing 2021 inflation as transitory, which it was. But when inflation shifted to the wartime energy shock, the Fed failed to communicate the changes properly and its reputation suffered," Donovan said. "If the Fed had done a better job of explaining the evolution of inflation, it might have been less paranoid about damaging its reputation."

2. "The June 2022 policy errors"

"The Fed shifted the focus to consumer price data, which places more emphasis on fictional prices like owners equivalent rent than does other measures. It tore up forward guidance and the credibility that had been built up over years. And it did all of this based on a high inflation expectations number, when the inflation expectations number was revised down within days of the policy decision," Donovan said.

"This reveals perhaps one of the biggest concerns with the current Fed policymakers. At least some policymakers seem to be treating the economic data as if it was trustworthy, not acknowledging the declining quality of economic figures," Donovan said. "A sensible recognition of the declining quality of economic data would have stopped the blind hike, hike, hike strategy."