That, in a nutshell, is the situation now, with Jerome H. Powell, the Fed chairman, raising interest rates to reduce inflation that has not been this high in 40 years. Something similar happened the last time inflation was out of control. Paul A. Volcker was then chairman of the Fed. He drove inflation out of the economy, but at great cost—plunging the nation into not just one recession, but two in quick succession. Unemployment soared, stocks fell repeatedly, interest rates fluctuated and, for a while, bonds looked volatile as well. While comparisons between periods may be exaggerated, there are parallels. And because of the outsized role Mr. Volcker played as the very model of a modern central banker, it’s worth looking to his era for guidance. The Federal Reserve has turned to the historical record for lessons. Investors can also benefit from them. Simply put, I would say that the lessons are twofold. First, because it had multiple, severe crashes, the Volcker era was disastrous for anyone who actively traded and bet wrongly on the direction of the markets. Short-term trading in stocks, bonds and commodities is a dangerous game. It is especially dangerous when market currents are opaque and treacherously strong, as they were then and can be now. But, secondly, the Volcker era was great for those who had the patience and resources to see it through. While Mr. Volcker’s tough handling of the economy was intentionally disruptive, it led to tremendous bull markets, both in stocks and bonds.
Then and now
Investing would be easy if we knew what today would be like in 40 years. But, of course, we don’t. Consider that the S&P 500 fell more than 20 percent from Jan. 3 to mid-June this year — sending stocks into a bear market — only to recover more than 12 percent. Stocks are still down significantly and the bear market designation will remain intact until the market returns to its peak. But when will this happen? This is a critical question if you are betting short-term. It’s much less important if you’re a long-term buy-and-hold investor, with a horizon of at least a decade and preferably longer, using cheap index funds that track the entire market. That’s the approach I’m taking now, and I think it makes sense for most people — assuming, of course, that you can set aside enough money to pay your bills, so that the temporary paper losses you face in the market will be earned. to hurt you As the market eventually goes up, you will prosper.
8 signs the economy is losing steam
Card 1 of 9 An alarming prospect. Amid persistently high inflation, rising consumer prices and falling spending, the US economy is showing clear signs of slowing, fueling fears of a possible recession. Here are eight more measures that signal trouble ahead: Consumer confidence. In June, the University of Michigan survey of consumer sentiment hit its lowest level in its 70-year history, with nearly half of respondents saying inflation is eroding their standard of living. The housing market. Demand for real estate has fallen and construction of new homes is slowing. Those trends could continue as interest rates rise and real estate companies, including Compass and Redfin, have laid off employees in anticipation of a downturn in the housing market. Copper. A commodity seen by analysts as a gauge of sentiment about the global economy – because of its widespread use in buildings, cars and other products – copper has fallen more than 20% since January, hitting a 17-month low on July 1. Oil. Crude prices have rallied this year, partly due to supply constraints stemming from Russia’s invasion of Ukraine, but have recently begun to wobble as investors worry about growth. The bond market. Long-term government bond yields have fallen below short-term yields, an unusual event traders call a yield curve inversion. It suggests that bond investors are expecting an economic slowdown. The Volcker era illustrates the problem emphatically. Over time, investors have done well. In short periods of time, their experience was crazy.
Emergency shifts
Mr. Volcker became chairman of the Fed on August 6, 1979, as an appointee of President Jimmy Carter, and served until August 11, 1987, under President Ronald Reagan. This period and the current one are by no means identical. In monetary policy alone, the causes of high inflation then and high inflation now stem from different, if superficially similar, roots. There were oil price shocks in both periods: one in 1973 and 1974 and another in 1978 and 1979. as well as the 2022 oil price shock. But the impetus for the hyperinflation of the 1970s and 1980s goes back at least to the mid-1960s, to President Lyndon B. Johnson’s “guns and butter” spending on the Vietnam War and the Great Society, which the Federal Reserve faced loose monetary policies. In addition, Congress took the United States off the gold standard in 1968. And on August 15, 1971, President Richard M. Nixon suspended the convertibility of the dollar into gold for foreign governments, which until then could obtain it from the The US government at $35 an ounce. We don’t remember that it was Mr. Volcker himself, as undersecretary of monetary affairs in the US Treasury Department, who recommended that Nixon take this step, and that Mr. Volcker oversaw the introduction of the floating exchange rates that we now take for granted. The dollar weakened sharply in response to the Nixon-Volcker policies, fueling the inflation that Mr. Volcker would later fight at the Fed. When Mr. Volcker became Fed chairman in 1979, inflation was running at more than 11 percent a year and the unemployment rate was nearly 6 percent. A bull market in stocks had begun in 1974 and continued for months more, even as the Volcker Fed had begun to tighten monetary policy in a remarkable change of approach – which makes current efforts seem insignificant. On Saturday, Oct. 6, 1979, Mr. Volcker “announced a radical change in the conduct of monetary policy,” wrote Jeremy J. Siegel, an economist at the University of Pennsylvania, in the book “Stocks for the Long Run.” “No longer will the Federal Reserve set interest rates to guide policy,” Professor Siegel said. “Instead, it would exercise control over the money supply without regard to movements in interest rates. The market knew this meant sharply higher interest rates.” By reducing the money supply and letting short-term interest rates fluctuate, the Fed has, in effect, let interest rates rise. The immediate reaction of the stock market was strong. “Stocks tumbled, down nearly 8 percent on record volume in the 2½ days after the announcement,” Professor Siegel wrote. “Shareholders shuddered at the prospect of sharply higher interest rates that would be necessary to tame inflation.” By March 1980, the Fed funds rate was a staggering 17 percent, compared to just 2.5 percent today. It would exceed 19 percent the following year—and the money supply, which was the Fed’s main objective, shrank sharply. However, despite periodic short-term declines, many traders remained bullish. They either ignored the consequences of this extreme monetary tightening or denied them. However, these consequences were all too clear for millions of people who lost their jobs. The economy slowed so much that it fell into a recession from January to July 1980. But it wasn’t until November 28, 1980 that a bear market in stocks began. What explains the timing of market movements then? Even now, we can’t say for sure. What is clear is that the S&P 500 lost more than 27 percent during a miserable 20-month period ending in August 1982. If you were on the wrong side of that move, you lost a ton of money.
Early victory
Understanding the Fed’s plans was incredibly difficult because the Fed itself wasn’t sure how to proceed. He began to loosen monetary policy—prematurely as it turned out—in April 1980, during the first Volcker recession. Fed meeting minutes and recent Fed histories reveal that the central bank is improvising. It was trying to lower “expectations of inflation” while minimizing damage to those whose livelihoods were at stake, and they often didn’t know how to balance the two checks. The real Fed funds rate reached 19.39 percent in April 1980, before falling to 11 percent in May and 9 percent in July. The Fed had to reverse course in September. In January 1981, with inflation rising, the Fed funds rate was again above 19%. This is not a typo. The textbooks predict that when you raise interest rates high enough, an economy will explode, and it did: The second Volcker recession began in July 1981 and lasted until November 1982. However, this made Mr. Volcker’s job easier. There was no longer any reason to doubt that the Fed meant business. Another recession? Come on! All it took was enough to quell inflation. As New York University economist William L. Silber says in Volcker: The Triumph of Persistence: “His leadership of the Federal Reserve from 1979 to 1987 revived confidence in the central bank—almost as if he had restored gold standard — and ushered in a generation of economic stability.”
Wild trade
Trading stocks, bonds, and commodities like gold during this volatile period was exhilarating yet excruciating. Countless, supposedly well-informed “experts” have recommended buying and selling stocks at the wrong times. Millions of people lost money.
