Anyone else got "Fed Fatigue" ? Some thoughts as the Fed meets.....

Wednesday 16th September 2015

Anyone else got "Fed Fatigue" ? Some thoughts as the Fed meets.....

Ref : "Fed tightening threatens disaster for credit-sodden global economy" , Jeremy Warner, Viewpoint, The Daily Telegraph, p. B2

The Fed's Open Market Committee begins its two day deliberations on whether to hike rates today, and will announce its decision tomorrow ..... At last ! At times it's felt like the day would never come.

 You have to wonder what old-time traders used to double-digit interest rates (in the Eighties, say) would have made of the world tying itself in knots at the possibility of a 25 basis point hike. "Not credible", they might say, especially when the move has been signposted so clearly and for so long. But then they would have said the same thing about the chances of  rates being at or near zero for almost six years. Adding a quarter-point to a rate of say 12% is obviously no big deal, but adding a quarter-point when you're starting from 0.25% is another matter entirely. Moreover, if the first upward move in nearly ten years is seen to represent the start of a tightening cycle and presages further hikes to come, then it's a very big deal indeed.

We don't have to go over all the arguments for and against a rise for the umpteenth time, but we'll focus on one particular (and crucial) element. The hawks argue that the Fed's mandate is a domestic one, and if conditions in the US merit an upward move  --  and with Q2 GDP revised to +3.7% and unemployment down to 5.1%, they do  --  the Fed should act. The other side of the coin put forward by figures both inside and outside of the US including  the IMF and the World Bank is that since the fall-out from China's issues has put global markets in turmoil and emerging nations in crisis, a hike could be disastrous. This of course ignores the fact that we commented upon the other day that some emerging nations have actually urged the Fed to act sooner rather than later, arguing that the uncertainty is causing more damage than a rise of 25 basis points in borrowing costs ever would. The comments would not have been welcomed by the IMF and the World Bank, and we can assume (for now) that they remain very much the minority view.

Actually, there's a body of opinion that believes that the Fed missed its chance of implementing the start of the "normalisation" process. If they had acted before China muddied the waters, the move could have been absorbed without too much damage (relatively speaking). That's easy to say with US numbers as they now are, but had they decided to hike with only the data from a dismal 1st quarter to rely on their logic would surely have been called into question. Anyway, the theory will have to remain academic.

So how is it that we've reached a situation where it can be reasonably argued that a quarter-point rise could devastate the global economy ? The answer, in essence, lies in the long period of ultra-low interest rates and the US dollar's status as by far the most important reserve currency. The Fed's earlier efforts to stimulate the US economy with such easy credit was domestically inspired, but spilt out across the globe. Foreign companies, gorged with cheap US$-denominated debt, now face the prospect of higher interest and having to make repayments in a stronger dollar. Resulting insolvencies can spill over from corporates into banks, even nations. The point missed by the hawks proclaiming the "domestic" agenda, it is argued, is that what goes on in the global economy fundamentally and materially affects the performance of  the US economy. The effects of the Asian crisis and Russian default on conditions in the States in the late Nineties were bad enough, but things would be much worse now  --  China and emerging markets now account for over half global GDP.

 Looked at in that light, the case for "NO ACTION" looks pretty strong ..... except that the speculation would inevitably shift to October, then December, and conceivably into next year. The point made about uncertainty is also a strong one, as is the question whether the Fed risks losing credibility.

Futures markets suggest that the probability of a hike is about 28%, though surveys among the great and the good make it a much closer call. One thing's for sure .... if the Fed does make a move, they'll have to be EXTREMELY careful with their accompanying statement. Every word and nuance will be analysed, and failure to reassure the markets that this is not the start of an aggressive and rapid cycle of rate rises regardless of global conditions would probably bring about the sort of bloodbath the doomsayers fear. Frankly, the Fed are likely to be damned if they do and damned if they don't ..... on balance, the consensus seems to be marginally for NO CHANGE .... and lots more "Fed Fatigue".