US Fed keen to cushion rate hike impact

Federal reserve building Washington DC. USA. Financial concept.

Garry Shilson-Josling, AAP Economist


(Australian Associated Press)

If the futures market, economists, and just about everyone else are right, the US economy will soon experience its first official interest rate rise since 2006.

Investors in share, bond and property markets will have to face the reality that world’s key interest rate will no longer be set near zero.

But there’s no need to hang onto your hats – it will be anything but a wild ride.

And the Federal Reserve is determined to make it as easy as possible.

Not only will it be the most anticipated rate hike ever announced, as well as one of the smallest, it will come with commentary as soothing anything ever heard before from a central bank.

The Fed lowered its benchmark funds rate to the zero to quarter per cent range in late 2008 as the global financial crisis unfolded.

It’s been there ever since and for most of this year it has been trading near the middle of that range.

And the upward path in the fed funds rate will be gradual.

In September – the latest available results – expectations of Fed board governors and Federal Reserve Bank presidents for the funds rate at the end of 2016 ranged from -0.1 per cent – that’s right, a negative fed funds rate – to +0.9 per cent.

So it’s clear the people with their hands on the lever do not expect fed funds to rise quickly in the coming year.

And the Fed wants that to be well understood.

In the minutes of its September meeting, the Fed said the expected path of the funds rate was more important for the economy than the exact timing of the first move.

The pacemakers “noted the importance of underscoring this view at the time of lift-off,” it said.

To make the path super-gradual, the Fed could simply lift the funds rate to a quarter per cent, which would effectively be a one eighth percentage point hike.

But that move would be almost comically small.

Even a quarter point hike would be too small to make any meaningful difference to the economy, but at least no one would laugh.

The futures market has taken all of this on board, factoring in a lift into the quarter to half per cent range when the meeting currently under way ends on Wednesday afternoon (Thursday morning AEDT).

In other words, a rise of a quarter of a percentage point, or 25 basis points.

Beyond that, the market has priced in an incremental rate of increases, putting fed funds at about 0.75 per cent by early 2017, and 1.25 or maybe 1.5 per cent a year later, roughly consistent with the Fed’s own officials.


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