The Fed move, but not quite so Triumphal

The Federal Reserve raised interest rates by 25bp on Wednesday evening, as expected. In the accompanying statement the committee did not change growth forecasts for the coming years, possibly suggesting that they are slightly more cautious on the impact Donald Trump’s initiatives will have on the economy, than some others. The committee did raise, by 25 basis points, projections for the appropriate level of the Federal Funds rate for the coming year. The median projection is now for three hikes next year, it was for two. If history is anything to go by, whatever the number is next year it probably won’t be three.

Adding to this view is the Wall Street Journal,  reporting the Federal Reserve are now more cautious on the outlook for the US economy in the coming year, than official bodies. This contrasts with previous years where they have tended to be more optimistic. Interesting the Federal Reserve decide to raise projections for the Fed fund rate, despite becoming more cautious on the outlook for the economy.

Equity markets and bond markets behaved pretty much as expected, equities sold off a little as did bonds. Equity markets appeared to not focus too much on the possibility of a slightly more cautious economic outlook. After an eventful year, this in theory was the last hurdle for the market to negotiate, so far it has had a minimal impact on the new found bullish investor sentiment.

The Federal Reserve’s desire and ability to move interest rates higher in the coming year may also be hamstrung to a certain degree by the actions of other central banks, who still favour more liberal interest rate policy.

After last night’s announcement, the US dollar basket (DXY) rose to the highest-level post 2008. The stronger US dollar has an impact on the global economy, particularly the emerging markets whose debt is often dollar denominated, increasing the debt burden. The Fed will be mindful of too strong a dollar as it can pressure on company earnings and exports.

The Bank of England, in contrast to the Fed, but again as expected left rates as they were. The Bank expects Q4 growth to be 0.4% and repeated its caution for growth outlook next year. The Bank of England, may also face some difficult decisions next year. Inflation is likely to pick up above target, in which case they may want to raise rates, but will be fearful of the impact on growth. The likely result is that the Bank of England will allow inflation to rise and leave rates where they are, if they can.

 

Posted on December 15, 2016 .