The Fed's rapid interest-rate hikes spell trouble for the US economy - and its hands may be tied if disaster strikes, ex-policymaker says

• The Fed's interest-rate hikes will have a delayed cooling effect on the US economy, Jeremy Stein said.
• Don't assume the central bank will save the day if markets and companies get in trouble, he warned.
• The Harvard economist and former Fed official underlined how vital it is to crush inflation.

The Federal Reserve's flurry of interest-rate hikes this year will have a delayed fallout, and the US central bank's hands may be tied if markets seize up and companies run into financial trouble, Harvard economist Jeremy Stein has warned.

The former Fed governor urged the central bank to stay laser-focused on conquering inflation, speaking on the latest episode of the "Exchanges at Goldman Sachs" podcast. He also cautioned that when investors realize the Fed can't be relied on to save the day, it could send shockwaves through the financial system.

Here are Stein's 7 best quotes, lightly edited for length and clarity:

1. "Inflation is a very serious problem. Given where it is now, and the very real risk of it getting embedded into expectations and becoming something of a self-fulfilling problem, I think the Fed's only option for now is to continue to make inflation the number one policy priority."

2. "If you were going to make an argument for stopping or slowing down, the more compelling one is lags in the process. There's a lot of tightening already, potentially, in the pipeline. We don't know how much. But we know it's going to take some time to show up. At some point that might be a reason to pause." (Stein was discussing when the Fed should halt its rate hikes.)

3. "I have been very surprised at how orderly this has been. I do worry there's another leg to go in some of these things. We know if you put a lot of pressure in the pipe, something is going to crack somewhere. But it's always not what you expect, and not what cracked the last time. So far this has all been the easy part of it. Not a drop of blood has yet been spilled." (Stein was commenting on how the US economy has reacted to a historic rise in interest rates this year.)

4. "Treasuries are an area of concern. I continue to be worried about the open-end bond fund complex. We saw real serious tremors there in March of 2020. Big outflows. Big liquidations by these funds. Basically, they were bailed out by the Fed coming up with these credit facilities, which had a very powerful effect."

5. "I think some of the tools that they've had before, some of the most dramatic tools like the credit facilities, won't be there. Even though some market participants may be assuming if things start to get hairy in that space again, I don't think we can assume the Fed can ride to the rescue this time." (He noted the Fed was only able to buy corporate bonds in the spring of 2020 via a special-purpose vehicle backed by the Treasury and funded by the Cares Act.)

6. "In a world where the problem is insufficient demand, the Fed can always step in and try to do more to reassure markets. There can always be a Fed put in a demand-shortage world. In an inflation world, you really can't do that much of it because it trips over your monetary policy objectives so much."

7. "One of the things I worry about is: Has the market fully understood that the Fed is just going to be much more limited? Even with the Treasury market, but certainly more so with credit. I worry that when things start to get a little shaky once we start having defaults, It's not only going to be the direct effect of the defaults, it's going to be a realization that the Fed put is no longer there. And that would be another potential shoe that can drop."

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