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Global Economies Will Dictate Interest Rate Hike Timing

Interest-Rates / Global Financial System Nov 22, 2014 - 10:56 AM GMT

By: Sy_Harding


The Federal Reserve spent this year winding down its $85 billion a month QE stimulus program. With that task completed, the hot topic of analysts, and concern of markets, is how soon the Fed will take the next step in moving back toward normal monetary policies. That is, when will it begin raising interest rates from the current near-zero levels back toward normal?

The Fed says only that “It likely will be appropriate to maintain the 0 to 0.25% target range for a considerable time following the end of the QE asset purchase program.” In its statement after its last FOMC meeting, it added that, “If progress toward our employment and inflation objectives take place more quickly than is currently expected, the rate increases could begin sooner than currently anticipated. Conversely, if progress proves slower than expected, then rate increases are likely to occur later than currently anticipated.”

That has analysts closely watching employment and inflation reports, including factory orders and industrial production that might provide clues for the employment picture.

I suggest that global economies and the markets of America’s largest trading partners are much more important areas to watch. The undercurrents in those areas are more likely to dictate when the Fed will have enough confidence in the U.S. economy to begin raising rates.

So far this year global undercurrents have been undertows, potentially beginning to tug at the anemic U.S. economy.

It almost went unnoticed a few weeks ago when the latest trade data showed the U.S. trade deficit unexpectedly surged up 7.6% in September, due to a big drop in exports to important trading partners Europe, China, and Japan.

Economic reports for October and November do not encourage the thought that the situation has improved since.

David Cameron, Prime Minister of the U.K. warned this week that, “The eurozone is teetering on the brink of another recession.”

Japan, the world’s third largest economy, reported this week that its economy has already unexpectedly declined into another recession, its third-quarter GDP growth negative for a second straight quarter.

The global Markit PMI reports released this week show the overall euro-zone PMI Index fell to 51.4 in November, a 16-month low, while its PMI Mfg Index fell to 50.4. Both numbers are still above the 50 demarcation that separates expansion from contraction, but just barely.

Germany’s PMI Mfg Index fell to 50.0, also a 16-month low. France’s PMI index, already in contraction below 50, at 48.5 in October, fell further to 47.6 in November.

In China, its PMI Mfg Index fell to a six-month low in November.

Meanwhile, Fed officials including Fed Chair Janet Yellen and several Fed district governors, have expressed concerns about how analysts are arriving at their forecasts for the beginning of rate hikes, concerned they are not paying enough attention to the Fed’s guidance that a rate decision will be totally “data dependent”.

Especially after this week’s global reports and warnings, that data will obviously have to include not just information on U.S. jobs and inflation, but data on global economies, and their potential impact on the U.S. economy in one direction or the other.

It could lead to more volatility in the U.S. stock market, yet be a win-win situation for the longer-term.

If the downtrend in global economies persists well into next year, the Fed would more than likely delay implementation of rate hikes. And although unlikely, if declining global economies impact the U.S. economy too negatively, the Fed could even be forced to re-implement some degree of QE stimulus again. We know how the U.S. market has not only liked the idea of rate hikes being delayed, but loved the QE scenario.

However, it looks like global central banks are waking up to their circumstances.

Finally responding to concerns about its slowing economy, China cut lending rates Friday for the first time in two years, apparently acknowledging that its flagging economy needs more help. (Economists are already debating whether it will be enough).

Meanwhile in Europe, Mario Draghi, president of the European Central Bank, also stepped up to the plate Friday, sending a stronger signal that the ECB is ready to aggressively expand its QE type bond-buying stimulus to put more money into euro-zone economies. (Unfortunately, while stressing readiness to act if necessary, he again provided no timetable for that action).

The better solution for the Fed and the U.S. economy would obviously not be a need to delay rate hikes, or potentially have to provide stimulus again, but for global markets to recover and become a positive influence on the U.S. economy, rather than a potential drag.

U.S. employment, factory, and inflation reports are of importance. However, they are probably lagging indicators given the global situation.

The prospects for global economies will likely be leading indicators that will dictate when the Fed will have sufficient confidence in the U.S. economy to begin raising rates.

Furthermore, global stock markets, which usually anticipate economic changes before they show up in economic reports, should be leading indicators of whether their economies will continue to decline, or will recover.

Sy Harding is president of Asset Management Research Corp., and editor of the free market blog Street Smart Post.

© 2014 Copyright Sy Harding- All Rights Reserved

Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

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