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Hawkish vs Dovish: Differences Between Monetary Policies

By Kim Franke-Folstad · August 19, 2021 · 6 minute read

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Hawkish vs Dovish: Differences Between Monetary Policies

What Does It Mean If the Fed Is Hawkish or Dovish?

The Federal Reserve has two primary long-range goals: controlling inflation (hawkish) and maximizing employment (dovish). But these two aims can be at odds, and thus the Fed is often called hawkish or dovish.

In reality, the Fed is striving to balance what can seem like opposing scenarios. For example:

• A monetary hawk is someone for whom keeping inflation low is the top concern. So if the Federal Reserve seems to be embracing a hawkish monetary policy, it might be because it’s considering raising interest rates to control pricing and fight inflation.

• A dove is someone who prioritizes other issues—especially low unemployment—over low inflation. If the Fed seems to tilt toward a dovish monetary policy, it could signify that it plans to keep rates where they are—at least for the time being—because growth and employment are doing fine. Or it may plan to lower rates to stimulate the economy and add jobs.

Recommended: What Is the Federal Reserve? The Fed Explained

Who Decides Monetary Policy?

It’s important to note that the Federal Reserve’s decisions on monetary policy aren’t left to just one person.

People often blame the sitting president or the chairman of the Federal Reserve if they don’t like the way interest rates are going—whether that’s up or down. But the Fed’s direction is determined by a group of central bankers, not by the Fed chair alone.

The 12 members of the Federal Open Market Committee (FOMC), who typically meet eight times a year to review economic conditions and vote on the federal funds rate, are responsible for deciding the country’s monetary policy. And they may have varying opinions about what the economy needs. So you might hear that the Fed is hawkish or dovish, or you may hear that an individual policymaker—or policy influencer—is a hawk while another is a dove.

Recommended: What Exactly is Monetary Policy?

Why Would the Fed Take a Hawkish Stance?

When fiscal policy advisors in the government or banking industry are described as favoring a hawkish or “contractionary” monetary policy, it’s usually because they want to tighten the money supply to protect the economy from inflation and promote price stability.

If the price of goods and services rises due to inflation, consumers can lose their purchasing power. A moderate inflation rate is considered healthy for the economy. It encourages people to spend or invest their money today, rather than sock it away in a low-interest savings account where it could slowly lose value. The FOMC has determined that an inflation rate of around 2% is optimal for employment and price stability.

If inflation rises above that level for a prolonged period of time, the Fed may decide to pump the brakes to control inflation and keep the US economy on track.

The Fed has several tools for controlling inflation, including raising its federal funds rate and discount rate, selling government bonds, and increasing the reserve requirements for banks. When access to money gets more expensive, consumers and businesses typically borrow less and save more, economic activity slows, and inflation stays at a more comfortable level.

Recommended: Is Inflation Good? Who Benefits from Inflation?

Why Would the Fed Take a Dovish Stance?

A dovish or expansionary monetary policy is the opposite of hawkish monetary policy.

If the Fed is worried about the economy’s growth, it may decide to give it a boost by lowering interest rates, purchasing government securities by central banks, and lowering the reserve requirements for banks. Or, if it thinks employment and growth are on track, it might keep interest rates the same.

With lower interest rates, businesses can borrow more money to expand and potentially hire more workers or raise wages. And when consumers are in a low-interest rate environment created by a dovish monetary policy, they may be more likely to borrow money for big-ticket items like cars, homes, home improvements, and vacations. That increased consumption can also create more jobs. And doves tend to prefer low unemployment over low inflation.

Is It Possible to Be Both Hawkish and Dovish?

Yes. Some economists (and FOMC members) don’t take a completely hawkish or dovish attitude toward monetary policy. They are sometimes referred to as neutral or “centrists,” because they don’t appear to prioritize one economic goal over another. Fed Chair Jerome Powell, for example, has been called a hawk, a dove, a “cautious hawk,” a “cautious dove,” neutral, and centrist in various media reports.

And the media frequently pondered where Powell’s predecessor, US Treasury Secretary Janet Yellen, stood on the hawk-dove continuum. (“Is Yellen A Hawk in Dove’s Feathers?” a Bloomberg headline asked in 2013.)

The current FOMC includes members who have been identified as hawkish, dovish, and neutral. That mix of viewpoints can make it difficult to guess the group’s next move—so anxious investors are keeping a close eye out for clues as to what could happen next.

How Do Hawkish vs. Dovish Policies Affect Savers, Spenders, and Investors?

Interest rates frequently rise and fall as the economy cycles through periods of growth and stagnation, and those fluctuations impact everyone. Whether you’re a saver, spender, or investor—or, like most people, all three—you can expect those rate changes to eventually impact your bottom line.

For Savers

Savings account rates are loosely connected to the interest rates the Fed sets, so you might not see a difference right away if there’s a cut or a hike.

When the Fed lowers the federal funds rate, however, financial institutions may move to protect their profits by lowering the interest paid on high-yield savings accounts, money market accounts, and certificates of deposit (CDs). That can be frustrating, and it may be tempting to give up on saving or move money to riskier investments. But specialists generally recommend keeping an emergency fund with at least three to six months’ worth of living expenses stashed in a low-risk account that’s easy to access and isn’t tied to the markets.

Savers may want to check out the more competitive rates offered by online accounts, like SoFi Money. Because online-only financial institutions have a lower overhead, they typically out-yield brick-and-mortar banks’ savings accounts, regardless of what the Fed is doing with its rates.

For Spenders

An increase or decrease in the federal funds rate can indirectly affect the prime rate banks offer their most credit-worthy customers. And it is often used as a reference rate, or base rate, for other financial products, including car loans, mortgages, home equity lines of credit, personal loans, and credit cards.

If interest rates go down, and borrowing gets cheaper, it can encourage consumers to go out and make those purchases—both big and small—that they’ve been wanting to make.

If those interest rates go up, on the other hand, consumers tend to be deterred from borrowing and spending. They might decide to wait for rates to drop before financing a house, a car, or an expensive purchase like an appliance or home renovation.

Impulse spending also can be affected. Spenders might choose to save their money instead—especially if the interest rate goes up on CDs, money market accounts, and other savings vehicles. Or consumers may focus on paying down credit card debt and other loans to avoid paying high interest on big balances, especially if those obligations carry a variable interest rate.

For Investors

There are no guarantees as to how any investment will react to changes in interest rates made by the Fed. Some assets (like bonds) can be more directly impacted than others. But nearly every type of investment you might have could be affected.

One way to reduce your risk exposure is to create a diversified portfolio, with a mix of assets—from stocks and bonds to real estate and commodities, and so on—that won’t necessarily react in the same way to changes in the interest rate (or other economic factors). If your investments all trend up or down together, your portfolio isn’t properly diversified.

The Takeaway

The Federal Reserve has two primary goals: overseeing US monetary policy in order to stabilize prices and control inflation—a stance that’s considered hawkish or contractionary—and maximizing employment, which is considered dovish. While these two aims can seem at odds, the Fed has been striving to take a mostly dovish or neutral stance in recent years.

Fed Chair Jerome Powell has indicated that there will be no interest rate increases through 2023. But if inflation becomes a concern down the road, the Fed could move to a more hawkish position: raising interest rates to rein in spending. Either way, consumers should think through the potential impact on their plans to save, make big purchases, or invest.

With SoFi Invest, investors can put their portfolio in the hands of professional money managers with automated investing, or they can handle it themselves with SoFi’s active investing platform. Either way, there’s always help available—and access to up-to-date financial news on the SoFi app. And there are plenty of investment options to choose from for those who want to create a diversified portfolio, including exchange-traded funds (ETFs) and fractional and whole stock shares.

Download the SoFi app to stay up to date with financial news and to build a portfolio that meets your needs using SoFi Invest’s innovative tools.

Photo credit: iStock/drnadig

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