The U.S. Federal Reserve holds inordinate sway over the world’s economies—yet it acts, in some ways, like they don’t really matter.
Its power is primarily because of the dominance of the U.S. dollar, which soared in recent months as the Fed’s aggressive interest rate hikes made the greenback more attractive to investors. But this has a downside for other countries because it is fueling inflation, raising the cost of borrowing and increasing the risk of a global recession.
If you only paid attention to the words of Fed Chair Jerome Powell, however, you probably would have no idea this is happening. He hasn’t said a peep in his public speeches about the significant risks to the global economy as central banks jack up interest rates to tame inflation—including the Fed’s 0.75 percentage point increase on Sept. 21, 2022.
This may seem a bit odd that the Fed would appear to be so blasé about the global economy that it arguably leads. Yet as a finance scholar, I believe it makes perfect sense—though there are risks.
The Federal Reserve’s Domestic Focus
The Federal Reserve is mandated to focus on the U.S. economy, and it takes this job very seriously.
While central banks are aware of all global economic data, they focus on their own economies, helping them do what is best for their own nations. In the U.S., that means the Fed is focused on improving the American economy through
stable prices and full employment.
As a result, when the U.S. economy is slowing too quickly and people are losing jobs, such as early in the pandemic, the Fed lowers interest rates—no matter the impact on other countries. Similarly, when the economy is growing but consumer prices are rising too fast, the central bank raises interest rates.
The U.S. dollar is the world’s main reserve currency. AP Photo/Gregorio Borgia The Fed’s Global Impact
Yet it’s unavoidable that the Fed’s policies will influence economies, companies and citizens in virtually every country in the world.
While all central banks influence the rest of the world, the Fed has a much larger impact because of
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