Fed’s cred­i­bil­ity test looms as mar­ket doubts Sept rate rise

The Pak Banker - - FRONT PAGE -

Fu­tures traders are start­ing to bet the Fed­eral Re­serve will put off rais­ing in­ter­est rates. Janet Yellen shouldn't heed them, said Kay Van-Petersen, a strate­gist at Saxo Cap­i­tal Mar­kets.

Con­tracts on the fed funds rate show traders cut the odds of a Septem­ber in­crease by the Fed to 28 per­cent on Mon­day, from 54 per­cent on Aug. 7. In­vestors' doubts that the Fed will tighten pol­icy for the first time since 2006 have been fu­eled by a rout that erased more than $5 tril­lion from the value of global eq­ui­ties since China un­ex­pect­edly de­val­ued the yuan on Aug. 11, and sent com­mod­ity prices to a 16-year low.

The US is show­ing it is ready for higher in­ter­est rates and Yellen needs to de­liver them, Van-Petersen said. While Fed of­fi­cials flagged in­fla­tion con­cerns at their late July meet­ing, they in­di­cated the econ­omy was "ap­proach­ing that point" where it could sus­tain tighter pol­icy. The Fed has held rates at rock-bot­tom lev­els since 2008.

"The Fed should raise rates, even if the mar­kets sell off; it should be the econ­omy first," Sin­ga­pore-based Van-Petersen said Mon­day. "The very worst thing they could do is let the mar­ket dic­tate what they should do."

The world has been ad­just­ing to the prospect of in­ter­est-rate in­creases for the U.S. and the U.K. even as most cen­tral banks at­tempt to stim­u­late growth by adding ac­com­mo­da­tion. China's sur­prise de­val­u­a­tion this month may spur its ex­ports by loos­en­ing the cur­rency's con­nec­tion to the dol­lar.

Fed fu­tures show traders are still cling­ing to ex­pec­ta­tions for a De­cem­ber rate in­crease, where they now see a 52 per­cent chance for a move to 0.5 per­cent, down from 77 per­cent odds Aug. 7. The fig­ures are based on the as­sump­tion that the ef­fec­tive fed funds rate will av­er­age 0.375 per­cent af­ter the first in­crease.

Trea­sury 10-year yields fell be­low 2 per­cent for the first time since April and in­fla­tion ex­pec­ta­tions have dropped to the low­est since Jan­uary as the green­back's gains ver­sus ma­jor peers drive down the cost of im­ports and with crude oil slid­ing to six-year lows. That's helped cre­ate a pol­icy co­nun­drum for the Fed as strong jobs growth and the low­est un­em­ploy­ment since 2008 have led to the weak­est wage growth for any U.S. eco­nomic re­cov­ery since at least the 1960s.

Hav­ing spelled out loud and clear the ex­pec­ta­tion for higher rates, Fed Chair Yellen needs to de­liver to re­store the wan­ing cred­i­bil­ity of the world's cen­tral bankers, Saxo's Van-Petersen said. She also needs to build up am­mu­ni­tion to counter the next eco­nomic down­turn, he said. "If they don't raise this year, af­ter de­lay­ing it from March to April and to now Septem­ber, then no one will be­lieve what­ever they say in the fu­ture," ac­cord­ing to Van-Petersen. "We seem to have for­got­ten that ups and downs are part of the busi­ness cy­cle."

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