FOMC leaves rates unchanged following mixed economic reports
At the conclusion of the Federal Open Market Committee’s September meeting, the Federal Reserve decided not to increase the federal funds rate.
The FOMC consists of seven members of the Board of Governors and five Reserve Bank presidents. The committee meets eight times each calendar year to assess the health of the economy. If the data shows that the economy is not in a good condition, the Fed can pump more cash into the economy by purchasing government bonds or lowering the interest rate, making it easier for people to borrow. On the contrary, if the economy is healthy and inflation is stable, the Fed could raise interest rates in order to maintain the purchasing power of the dollar.
The last time a rate hike was seen was in December 2015, when the Fed raised rates by 25 basis points. The Fed’s move to cut down on quantitative easing was seen at that time as the end of the healing period for the U.S. economy following the 2007-08 Great Recession.
Regarding the decision to maintain the status quo, the committee released a statement stating that this move does not imply stagnation or distrust in the economy, but that there just is not enough factual data to support a hike or in other words, the pace of growth is not at par with the previous forecast from June.
Janet Yellen, the Fed chairwoman described this move as cautionary since hiking the interest rate and then lowering it would do much more harm to the system as compared to temporary inactivity.
The inflation rate, which is currently at 1.1 percent, is far from the Fed’s 2 percent target. Due to a sluggish performance during the first half of the year, the Fed cut its growth forecast from 2.0 percent in June to 1.8 percent. According to the statement released by the committee, the slow wage and price growth is driven by “tightness in the labor market” and lack of new job creations. This implies that we should expect to receive a stable pace of job market growth, but with very slow economic growth.
This is the first time since December 2014 when more than three Fed officials differed on the FOMC’s decision to maintain the current rates, among whom were the Fed Reserve presidents of Kansas City, Cleveland and Boston. They felt that the economy is ready for higher borrowing costs and proposed to raise the rates by 25 basis points immediately. According to CNBC, “While most Fed officials foresee a gradual increase of rates, one member expected the rate not to change much from the 0.65 percent level all the way through 2019. Another member, meanwhile, put the rate expectation at 3.75 percent by 2019, more than a percentage point above the consensus.”
Prior to Wednesday’s announcement, CME Group’s FedWatch Tool showed market expectations for the rate hike in September were barely 12 percent. Following the announcement, market performance soared, as U.S. stocks closed sharply higher.
The Dow Jones Industrials Average closed 160 points higher led by a strong performance by Boeing; the S&P 500 gained 1.1 percent. Meanwhile the NASDAQ composite hit a fresh all-time intraday high and closed at a new all-time high. In a conversation with CNBC, Chuck Self, CIO of iSectors said, “The markets liked what they saw, and there wasn’t much reason for them not to.”
The unexpected benefactors for the Fed’s decision are the Asian markets. The deal is simple—if the Fed did raise interest rates, foreign investors would have pulled out money from emerging markets like India and Korea to invest into the U.S. market for its higher yields. The Fed’s decision to maintain the rates was welcomed by Asian traders. The Hang Seng Index in Hong Kong was up by 0.4 percent, Korea’s Kospi ended 0.7 percent higher and the Shanghai Composite Index closed up 0.5 percent.
During the press conference, Yellen strongly hinted the possibility of an interest rate hike in December. The committee later added, “Although the unemployment rate is little changed in recent months, job gains have been solid, on average.”
Despite the Fed’s indecision to raise rates so far this year, many economists believe that the case for a hike in December has strengthened. In conclusion, the past FOMC meeting brings out two important factors—the Fed’s willingness to work while considering the market’s best interest and the effect the upcoming elections may have on the upcoming FOMC meetings. After the announcement, market pundits are fairly confident that the chances of the Fed taking a knee-jerker move in the upcoming meetings are slim.
The next FOMC meeting is set to take place in November, exactly one week before the election. People are fairly certain that if there is an interest rate hike, it would most definitely take place in December. The question of whether the upcoming election will impact the Fed’s decision should be left to personal judgment.