Every Fed tightening cycle ‘creates a meaningful crisis somewhere’

  • Written by MarketWatch
  • Published in Economics

Federal Reserve rate increases are a lot like shaking an overripe fruit tree.

That’s the analogy offered by Deutsche Bank macro strategist Alan Ruskin in a note late Wednesday, in which he urged clients not to “overcomplicate” the macro picture.

“A starting point should be that every Fed tightening cycle creates a meaningful crisis somewhere, often external but usually with some domestic (U.S.) fallout,” he wrote.

To back it up, Ruskin offered the following history lesson:

So what about now? The fed funds rate stands at 1.50% to 1.75% following a series of slow rate increases that began in December 2015, lifting it from near zero. The degree of tightening might seem pretty tame, but Ruskin notes that it comes after a period of “extreme and prolonged” accommodation and is also taking forms that economists and investors don’t fully understand as swollen balance sheet begins to shrink.

Also, he notes, the U.S. already has the highest two-year TMUBMUSD02Y, -1.96%[1]  , five-year TMUBMUSD05Y, -2.48%[2]  and 10-year TMUBMUSD10Y, -2.31%[3]  nominal yields in the G-10 world, a phenomenon last seen in the U.S. dollar boom cycle of 1983-’84, which also happened to see the U.S. uniquely pursuing big fiscal stimulus and tight monetary policy.

Ruskin said the “simple point” is that volatility, measured domestically by the Cboe Volatility Index VIX, -4.84%[4]  , or VIX, and more “externally” by gauges like the Deutsche Bank Currency Volatility Index, or CVIX, “will take on many forms, but has a strong pattern of following the Fed by 18-24 months when the Fed raises rates.”

As an example, Ruskin takes note of “a host of idiosyncratic stories in [emerging markets] that look to be largely tangential victims.”

Read: Emerging markets feel the pain as dollar, Treasury yields rise[5]

Where the U.S. rate cycle is relevant, he said, is that the Fed’s “past extreme external policy accommodation can no longer mask domestic issues, including valuation extremes like compressed credit spreads.” That could translate into trouble for foreign assets, Ruskin said.

The fact that the dollar initially fell as the Fed tightened rates contributed to the notion that “this time is different” and...

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