US Federal Reserve edges closer to first interest rate rise since 2008

[Editor: Dr. Raghuram Rajan's unwavering focus to keep inflation firmly bottled up had already evoked unusually caustic comments from politicians, who hit out at his hawkish stance, reflecting growing differences between Parliamentarians and the Central Bank. However,  his talk of "Medium-Term-Inflation-Targeting", may be partially  hinged on this issue as well. The INR, now at Rs.63.56 is precariously placed against the US. There are apprehensions that INR could slide further if the US Federal Reserve decides to raise its interest rate in August, 2015. Higher yields could prompt foreign funds to move closer home to the US; the dollar outgo hurting the rupee, unless rates here are high enough for foreign funds, and match the returns they could get in the US. A weak rupee will fan inflation by raising prices of imported goods including oil, gadgets and mobile phones. The Federal Reserve moved almost imperceptibly on December, 17, toward eventually raising interest rates in a statement that Fed watchers called surprisingly dovish--the rate-setting Federal Open Market Committee replaced its pledge to keep its key lending rate near zero for a “considerable time,” saying instead that “the committee judges it can be patient” about tightening monetary policy. It means predictions that the Reserve Bank will cut rates early in 2015 may have been premature, despite rising unemployment and a still-weak economic outlook for next year. Another factor which could be troubling the learned RBI governor is the expected QE in Japan, some of which might land in Indian shores, fueling "Imported Inflation". However, Dr.Rajan should also factor in "The Biggest Bull" as of  now--the FALL in CRUDE OIL PRICES. Apart from that, if we look around the world we will see that ECB, Japan , China, Australia, etc, are all cutting interest rates, to spur growth. Therefore, Dr.Rajan's approach might not be right at the present moment].
Wednesday 17 December 2014: The United States on Wednesday night edged closer to its first interest rate rise since before the Great Recession of 2008 when the Federal Reserve put Wall Street on alert for higher borrowing costs in 2015.

After a two-day meeting, the US central bank said it could be “patient” about the timing of policy but dropped its insistence that rates would be kept on hold for a “considerable period”.

Wall Street had been braced for the change in the Fed’s guidance following the generally upbeat news from the world’s biggest economy in recent months.

But the fall in US inflation, also announced on Wednesday, and caused by lower oil prices, has given the central bank the luxury of choosing its moment to act. Amid fears that Russia’s currency turmoil might spread to other emerging markets, the Fed’s chairman, Janet Yellen, is now likely to spend the first few months of 2015 preparing markets for its key rate to be raised from the emergency level of 0-0.25% enacted during the worst global recession since the 1930s.

The US has recovered more quickly than either the eurozone or Japan and strong job creation has pushed unemployment down to a six-year-low of 5.8%, but the Fed ruled out the possibility of an immediate rate rise.

“Based on its current assessment, the committee judges that it can be patient in beginning to normalise the stance of monetary policy,” the Fed said in a statement. Shares on Wall Street surged after the Fed said its statement was “consistent” with its previous language that it would be a considerable time before it hiked rates.

Within minutes of the Fed announcement, New York’s Dow Jones Industrial Average was up almost 250 points to more than 17,300 points – a rise of almost 1.5% on the day.

In a statement following a two-day gathering of the Federal Open Markets Committee, the Fed said that data since its last meeting in October suggested the economy was expanding at a moderate rate.

“Labour market conditions improved further, with solid job gains and a lower unemployment rate. On balance, a range of labour market indicators suggests that underutilisation of labour resources continues to diminish. Household spending is rising moderately and business fixed investment is advancing, while the recovery in the housing sector remains slow. Inflation has continued to run below the committee’s longer-run objective, partly reflecting declines in energy prices.”

Updated quarterly forecasts released by the Fed showed it expects the US economy to ride out the impact of a weakening global environment and with inflation – currently 1.3% – unlikely to reach its 2% target in the short term.

The projections, presented as a range that excludes the three highest and three lowest individual forecasts, foresee the economy growing between 2.6% and 3% in 2015, unchanged from September.

Policymakers at the Fed expect the unemployment rate to move down to an average of between 5.2% and 5.3% towards the end of next year, a slight improvement on previous estimates.

The Fed, however, acknowledged that headline inflation was likely to slow next year to between 1% and 1.6%, the result of the near halving of oil prices since the summer. Core inflation, which excludes volatile items such as food and energy, is projected to dip only slightly next year and reach the Fed’s target by the end of 2016.

The Fed said: “The committee sees this guidance as consistent with its previous statement that it likely will be appropriate to maintain the 0 to 0.25% target range for the federal funds rate for a considerable time following the end of its asset purchase programme in October, especially if projected inflation continues to run below the committee’s 2% longer-run goal, and provided that longer-term inflation expectations remain well anchored.

“However, if incoming information indicates faster progress toward the committee’s employment and inflation objectives than the committee now expects, then increases in the target range for the federal funds rate are likely to occur sooner than currently anticipated. Conversely, if progress proves slower than expected, then increases in the target range are likely to occur later than currently anticipated.”

Paul Ashworth, chief US economist at Capital Economics said: “The FOMC statement issued [on Wednesday] had something for everyone but, on balance, it does not dissuade us that unexpectedly strong employment growth over the next few months will prompt the Fed to hike rates next March, sooner than most others expect.”

Courtesy: The Guardian