US economy remains in contention for a Fed rate hike
Global markets remain abuzz with the possibility of a September rate hike in the U.S. However, recent statements by key individuals and policymakers have confused traders as to the timing and scope of a rate hike. Just the other day, the dovish President of the Boston Federal Reserve Bank alluded to no special urgency in opting for a rate hike just now. Dr Eric Rosengren has not given his blessing to a Fed rate hike in September, but he alludes to the need to see inflation hitting the Fed’s 2% annual rate.
Presently, there is too much slack in U.S. labour markets to expect higher inflation. However, the Labour Department released a report with upward revisions (245,000) for each of the months of June and July, but a much weaker jobs growth in August. The lukewarm report was enough to buoy dollar sentiment, and more importantly the unemployment rate in August declined to a 7-year low. Economists had been forecasting an increase in Non-Farm Payroll employment of 220,000 jobs in August, but the actual number was markedly lower at 173,000.
In July, the unemployment rate in the U.S. was 5.3%, but in August the number declined to 5.1%. Such is the positive feeling about the world’s largest economy that the President of the Richmond Federal Reserve – Jeffrey Lacker – has been hinting at raising the Fed interest rate regardless. But an interest rate hike in the U.S. is likely to have dire consequences for global markets, notably emerging market economies. As talk of a U.S. rate hike gains favour, foreign countries exchange their currencies for the USD. This bolsters the strength of the greenback and weakens other currencies.
Emerging market countries like BRICS (Brazil, Russian, India, China and South Africa) countries have suffered immeasurably over the past several months. This is particularly true in the sense that massive capital flight has been taking place. Brazil is in financial ruin with its President at just 8% approval and no support in Congress; Russia is in a quagmire, China has gone into meltdown and the South African mining and energy sectors have all but collapsed and taken the currency down with them. During times of economic uncertainty, it is the emerging market economies that face a loss of confidence.
The dollar has made strong gains against multiple currencies including the GBP (1.5187), the EUR (1.1102), the JPY (119.3500) and the CHF (0.9739). The dollar made even stronger gains against a basket of currencies before meeting strong resistance and declining to present levels.
Against the AUD, the USD hit a 6.5 year high of 0.6928 and against the NZD it is challenging the key 0.61 resistance level. It is currently trading at 0.6340. But what’s good for currencies is not necessarily good for equities. Now, investors are trying to figure out precisely when the Fed rate hike will take place. The S&P 500 Index slipped 1.5% in NY after the jobs report. The DJIA slipped 1.6% after the report. This is now the sixth such decline for the S&P 500 Index in just under two weeks.
The month of September is one of the worst for the S&P 500 Index with an average decline of 1.1%. Some of the many positive factors that are now working against the stock market are the following: - Payrolls have increased; - June and July employed was revised upwards; - Lowest unemployment rate since April 2008 – 5.1%; - Hourly earnings have increased and more workers are working longer.
Come September 16-17, the FOMC will seriously be considering meeting its 2% annual inflation rate by way of an interest rate hike in the region of 0.25 points. The likelihood of such a rate hike has spiked from 28% to 36% given the jobs report. For now, it’s going to be another week of high volatility until the September meeting is over. Stocks are going to come in for some serious tap and the USD is likely to enjoy a short-term surge until Janet Yellen, Stanley Fischer and policymakers post their report.