So was the US Rate rise a non-event or globally significant? The recent increase in interest rates by Janet Yellen, the Governor of the Fed, from 0.25% to 0.5% may on the surface appear an insignificant change. But in fact it has far reaching global concequences. This was the first time the US have raised rates since June 2006, therefore ending their policy of low interest. It must be pointed out though that 0.5% is in itself extremely low still, but it does signify a possible shift in thinking by the Fed and we could see rates creep up slowly over time. The magic warning number these days is 4% – where if that does happen I am reliably informed that we should sell everything including the kitchen sink! Janet Yellen sees rates at 3 1/4% by 2018.
The immediate impact on the markets was sort of a non-event. They had been pricing in such a rise since September, so there were no real surprises which kept most things stable and allowed traders to focus on the fundamentals.
Why the increase now?
An increase has been brewing for many months and it was really Yellen’s last chance to do so. If she hadn’t we could have expected some real fireworks in the markets. The main objective was to give the impression to the world that the US economy is forward looking, resilient and that there is confidence in its growth over the coming years. The US economy had also been growing at a far slower rate than was required. This increase also now enhances the appeal of US Dollar denominated assets.
Who will suffer?
Emerging Market countries could feel the effect of a rise more significantly in the short term. These countries are heavily in debt and that debt is issued in US Dollar’s, therefore making it more expensive. US $ debt stood at $9.8 trillion September 2015 (BIS). Can they afford a steady increase in rates? In terms of currencies as well it will mean a stronger US Dollar and weaker Emerging Market currencies – this has an impact on import and export costs. On the plus side, a booming US economy needs to get its goods / products from somewhere and it will turn to these sort of countries to supply its needs.
Another group to suffer could be the Asian countries. Higher borrowing costs may spark a ‘credit crunch’ style event and negatively impact their growth. Hong Kong have already raised their interest rates in retaliation to the US increase. Countries such as Malaysia, Thailand, Indonesia could suffer. An important time to watch out for will be when the bond debt comes up for expiry and needs renewal. Of course, a slowdown in China’s growth will only multiply the negative impact a US rate increase will have.
It is also a double edged sword for these countries, because if it turns out US growth is poor and the Fed have to keep rates low and don’t further hike, this probably means commodities are also weak, and inflation is still low – and this could spell problems for the Emerging Market countries.
What about the ‘big’ economies?
For major economies it is slightly different.
Rates across these countries are still very low – almost 3% lower on average than where they were in 2005/06. This ‘low’ policy is unlikely to change in the short term. With issues around global growth, weak commodities, China these countries can’t afford to be aggressive in putting up rates and need to retain a ‘loose’ monetary policy.
It’s hard to see Japan and the ECB raising their rates in the near future. More likely is the UK and Canada. Although traders are saying they don’t think a UK rise will happen until 2017. Some countries may even see cuts: New Zealand, Sweden.
The rate increase and further controlled rate increases should bolster liquidity to the markets, better put a hold on inflation and increase demand for more riskier assets over the next few years while hopefully stimulating general economic growth. For individuals and companies who may already may be running debt, they should be prepared for a steady increase in their bills and borrowing costs. This could put the brakes on any ‘internal’ country growth.
For the moment it is business as usual. There are still a lot of other variables being juggled around the world currently that also need to be taken into account when putting this rate rise into perspective – China, Oil etc. In the real short term, with the rate hike out the way, which was holding many a trader back, we may now see the traditional ‘Santa Rally’ come into effect over the next few weeks on markets such as the FTSE100, S&P 500 etc. Getting this event out of the way may now also allow specific markets to take their own natural route and we could start to see some more significant trends taking shape. It certainly wasn’t a non-event!