(Kitco News) – The Federal Reserve’s monetary tightening could lead us into a “recession that we don’t recover from for a couple of years,” said John Hathaway, Senior Portfolio Manager at Sprott Asset Management.
“[The Fed] doesn’t have a dial to modulate economic activity,” he explained. “They basically have an on-switch or an off-switch, and the off-switch is to crater the economy.”
On Wednesday, the Fed raised rates by 75 bps in response to high inflation.
The past year has witnessed the highest inflation in forty years. Headline inflation was 8.3 percent in August, while core inflation, which excludes food and energy, was 6.3 percent.
Currently, the Federal Funds Rate’s target range is between 3 and 3.25 percent.
This is not enough, according to Hathaway, who said that the Fed needs to raise its key interest rate higher to successfully bring down prices.
“You need to get 8 percent on the policy rate to crush [inflation],” he said.
Hathaway spoke with David Lin, Anchor and Producer at Kitco News, at the Precious Metals Summit at Beaver Creek, Colorado.
Public Debt Constraints
With U.S. public debt to GDP at 123 percent, Hathaway said that he “can’t imagine” that the Fed will raise rates high enough to successfully combat inflation.
He mentioned the 1970s period of high inflation, which led the Fed to hike rates up to 20 percent.
“Today the economy is more fragile than it was [in the 1970s],” he said. “The public debt to GDP in the 1970s and early 80s was a fraction [of what it is today], like 30 or 40 percent. Today we’re between 120 and 130 percent.”
If the Fed were to raise rates, then it could hamper the U.S. Treasury’s ability to service their debt.
“Every 1 percent rise in the interest rate paid on that $30 trillion of debt adds $300 billion to the budget deficit,” he said. “There are real constraints.”
The Role of Gold
Inflation hedging is not the only reason to hold gold, said Hathaway, who said that gold hedges against broader “systemic risk.”
“If you look at long spans of time, I would say that gold has kept up with inflation, but I don’t think that’s a reason to own it,” he said. “It’s ultimately [a hedge against] systemic risk and dysfunction of the system.”
He pointed to the 2008 financial crisis as an example of such dysfunction, along with the 1970s period of stagflation.
“We are now at a time that is more precarious than any other time since 1970s,” he said. “The reason for that is… the global debt to GDP ratio is higher than ever.”
He added that with such a high level of debt, the “usual antidotes of raising interest rates and slowing monetary growth” could weaken the economy, and lead to systemic risks of default.
“I think we’re going to see a lot of defaults in the next twelve months,” he stated. “That could blossom into a sovereign debt default.”
To find out Hathaway’s gold price outlook, watch the video above.
Follow David Lin on Twitter: @davidlin_TV
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