The fed will no longer support the economy to the extent it has been since Emergency Covid measures were put in place, March of 2020. Their first step will be to decrease the PACE of asset purchases in an effort to eliminate them. Starting this month the fed will purchase $15 billion LESS of assets from the $120 billion it has been purchasing every month. One very important thing to note is that the fed still has NO procedures for reducing the balance sheet; they indicated that they will just not further expand their balance sheet. However, the fed has noticed that the economy has progressed to the point where they can be justified to start easing monetary policy - but still monetary policy remains EASY even with the 15 billion reduction per month. The next expected step by the fed would be to RASIE rates when they "see labor market conditions have reached levels consistent with the Committee's assessments of maximum employment and inflation has risen to 2 percent and is on track to moderately exceed 2 percent for some time." The latest CPI came in at 6.3% year over year. Compare October 2020 to October 2021. What factors would cause a 6.3% increase in goods in a year time? Horrible supply chains, higher demand, labor shortages? Or is it strictly due to the Feds monetary policy? Whatever it is the fed NEEDS inflation so they can resupply their ammo. They have already hit the lower bound of zero. Inflation is over the rails when you look just at prices. However, a better gauge of inflation may be 'the expansion of credit'; prices are simply the outcome of debt creation. Debt creation is slowing down because, the time has come to start paying off their old debt and tighten financial conditions. When you borrow, you borrow from your future self. Dollars are needed to pay off debts; it has risen since January.
The decision to increase rates will most certainly not be undertaken until asset purchases are finished. The fed will move as slow as possible. Since the beginning of September the fed funds rate has been set at 0.08%. However, the more the fed increases their balance sheet the more they struggle to maintain positive rates. This the main reason the fed has increased their reverse repo activity from near zero in March 2021 to 1.4 trillion now! I would be surprised if the Fed could not maintain a rate in their target [0,1/4. If there are any changes to speed up this plan, the market will think the fed is really scared of persistent inflation or negative rates. We have been utilizing QE since 2008; news of a contraction in debt will always negatively affected markets.
*Quantitative Easing is a last ditch effort by a central bank. This form of monetary policy is used when nominal interest rates are already so low that, they can no longer lower rates to stimulate the economy. Its main aim is to induce inflation by expanding credit and providing liquidity. Prior to 2008 the feds balance sheet was at ~$750B. It now stands at ~$7T after 4 phases of QE. The take away here, is that the economy has been struggling since the GFC, the fed attempted QE in 2008, 2010, 2012 and 2020. In this time, we saw periods of reflation but, no runaway inflation or stagflation. Prior to 2020, the federal reserve in their speeches were mostly concerned about deflation. In 2020 government money went straight to the people and small businesses. The fed simply provided the funds to the treasury who issued the transfer. All this money that was "injected" straight into the system caused there to be a higher demand for consumer good *in a environment with stationary supply chains and covid issues. These issues will eventually be surmounted.Supply chain shortages will have to dissipate at some point and this will lead to an excess amount of inventory. Lumber was facing extreme shortages but, once manufacturing was put back on track and the supply chain's were fixed, lumber supply came back to healthy levels. Companies will adapt to function under the current circumstances.However, wage increases will remain. This is the debate going on at the fed right now: Are the current inflationary forces here to stay?
The fed isn't going to be as accommodative going forward. So credit will become a lot more difficult to come upon. Purchasers aren't going to have cheap rates to fund their expenses. Cheap rates go away when there is less available credit to allocate to qualifying borrowers. You will either need to pay a very high interest on a loan or have the cash on hand. With less credit available, asset prices will fall. Cash is King. Those with a high level of debt will need dollars. Look at what's happening with Evergrande and China contagion. China needs Dollars. The Federal Reserve warned on 11/10/21 that contagion is possible. Evergrande issued a bunch of Assets (commercial paper) based on the value of its debt which was given out to their builders as payment. As Evergrande's debt worsens, the commercial paper which the builders received as payment from Evergrande went down in value causing, the builder's balance sheet to decrease and them to default on their own bills.
Hopefully this helps you better understand the crazy economy we have.
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