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When 2016 started, market participants thought US interest rates would have to rise. Some expected four quarterly ¼ point hikes. However 2016 has yet to see any hikes to the Federal funds rate. The Federal Reserve chairwoman, Janet Yellen has consistently “put off the evil hour”.
The last time the Fed avoided hiking interest rates, it was due to the UK’s EU referendum vote on the 23rd June, an issue of no relevance to US unemployment or inflation, the Federal Reserve’s key factors in determining rate setting.
The last minutes of the Federal Reserve showed a growing consensus that the US economy is strong, creating jobs at a significant rate. Federal Reserve committee member Esther George, the sole dissenting voice at the last Fed meeting sees the US economy as strong enough to immediately raise the Federal Funds rate.
The risks the US central bank is running are real. During 2002-2005 the Fed kept interest rates too low, fueling a US credit/ property boom that ended in a collapse of asset values during the financial crisis of 2008/9. That crisis resulted in almost eight years of exceptional levels of monetary stimulus.
Ahead of the annual Jackson Hole meeting, William Dudley, board member and Stanley Fischer, Fed vice chairman have commented that the health of the US economy. The context therefore ahead of the meeting is that Janet Yellen has limited room to justify US rates being kept at current levels.
Janet Yellen has stayed on the fence a bit not committing to one or two rate hikes in 2016 commenting:-
“The rate hike case has strengthened in recent months, the US economy is nearing the Fed’s employment and inflation goals”.
“The Fed’s ability to predict the rate path is quite limited, the Fed wants policy tools responsive to various conditions”.
“The Federal Reserve Open Market Committee is not considering additional tools”
The immediate response has been limited suggesting investors see the rate hike decision as not changing as a result of the central bankers meeting. “No additional tools” is a reference to the Board no longer seeing quantitative easing measures as appropriate.
In the bond market US 2 year bonds are yielding 0.79% (unchanged) whilst the 10 year yield is paying 1.54% -0.04%.
US stocks are ahead, the Dow Jones immediate response was to jump 121 points to 18,569 on the assumption the Fed could wait until December 2016 to move on interest rates.