The market seems to be relying on an interest rate increase in the U.S. Federal Reserve on Wednesday, but there’s still some debate about if the central bank might hold off again following a wait that’s already exceeded nine years.
Plenty of signs emerged in recent weeks that Federal Open Market Committee members are preparing investors for a 25-basis-point rate hike. That has pushed the Fed Fund’s Implied Probability indicator to 78 per cent.
However, as Michael Hewson, chief market analyst at CMC Markets stated, there’s at least one component that could make the Fed think twice about a hike or might cause division among those on the rate-setting committee.
“This split could well happen because of the continued turmoil in commodity markets as crude oil prices, as well as metals prices, flirt with multi-year lows,” he said.
Fed Chair Janet Yellen hinted at the chance of this type of split a few weeks ago when she suggested that the unanimous decision wouldn’t necessarily be required to proceed with a rate hike.
Several Fed policymakers haven’t been shy about voicing their concerns concerning the negative impact international factors might have around the U.S. economy. To valid reason, given that the most recent ISM date suggests the U.S. manufacturing sector has dipped into a recession.
“Time will inform but two engines of growth are always better that certain, with manufacturing stalling, the question the Fed must ask is whether or not they really want to run the risk of stalling the remaining one at a time when costs are still falling and also the services sector might be on the verge of easing off its best levels,” Hewson said.
It’s worthy to notice that fed funds futures were pricing in 110 bps of hikes from January 2016 to January 2018. That number has since slipped to 101 bps.
Of course, smart people sometimes do foolish things, and that’s precisely what Mizuho Securities USA chief economist Steven Ricchiuto thinks the Fed will be doing if it hikes on Wednesday.
He noted that much of the economic data released since the Fed’s October meeting has disappointed the so-called growth optimists.
The labour market continues to show signs of strength, but GDP, industrial production, retail sales, shipments and orders of non-defense capital goods have all fallen lacking expectations.
Ricchiuto also highlighted trade data that suggests weak demand both domestically and overseas, manufacturing data indicating consolidation despite aggressive auto production, a housing market that looks stuck as more people shift to renting, and disappointing company profits because of limits on pricing power.
The economist believes the force in payroll employment is because of the shift to contract workers, part-time workers and commission employees.
“This means in my experience there’s a weak case at perfect for the Fed to hike rates,” Ricchiuto said, sticking with his require a rate hike within the second quarter of 2016 in the earliest. “Remember that central banks have twice surprised overly confident markets with their policy decisions in the past few weeks.”
Nonetheless, the Fed is really dedicated to hiking. Unfortunately, it’s not coming at the best time of the year, as the pre-holiday period often sees lower liquidity levels, which could result in heightened volatility.
Steven Englander, a currency strategist at Citigroup, also noted that the Fed should be careful to not have its rate lift-off derail activity or cause asset markets to plummet. As a result, they have to present the move as tentatively as possible, by having an focus on the likely slowness of the hiking path afterwards.
“This works both to obtain the doves on board (or the majority of the doves) in fulfillment of Fed Chair Yellen’s view that at turning points the Fed should consult with virtual unanimity,” Englander said. “Additionally, it works to lessen the risk that lift-off fills up in their faces, so even hawks see a reason to curb their hawkishness for a bit and watch for 2016 to press the situation for any faster pace.”