The Federal Reserve hasn’t raised rates in 9 years, but its latest reasons why may indicate a shift in how the Fed makes decisions.
Last week, the Federal Open Market Committee decided to keep the federal funds rate between 0% and 0.25%. When issuing its latest statement after its meeting, the Fed said its assessment took into account unemployment and inflation, the bank’s two stated mandates. But a third factor was also mentioned: “ readings on financial and international developments."
This indicates a sea change in the Fed’s policy motivations, according to Ira Jersey, senior client portfolio manager at OppenheimerFunds.
“The acknowledgement that the Federal Reserve is going to be looking at things like global deflation and a slowdown in the global economy is a big deal,” said Jersey. “U.S. data is actually holding up reasonably well. But with the market volatility and the slowdown of emerging economies, they’re really concerned about that.”
The recent shakeup in China’s markets after fears the country’s growth may slowdown took its toll on U.S. financial markets. The Shanghai Composite index ( 000001.SS) has plunged 37% since its mid-June record highs while the S&P 500 ( ^GSPC) is off by 6% during that same timeframe. Jersey said the Fed has grown worried about the impact on the overall U.S. economy.
“Just in June, you only had two members of the Federal Open Market Committee saying that they wanted to see hikes in 2016,” he said. “Now you have four members who think that they should be hiking only in 2016 or later. It’s hard to see what’s going to change over the next couple of months that is going to convince them that it’s actually time to hike without any significantly detrimental affects on the U.S. economy or market.”
By holding off on a rate hike, the Fed also made it easier for other central banks to take on their own monetary stimulus measures, Jersey added. It may relieve some of their concerns that capital could flee out of flagging economies and into the U.S. with its relatively higher rates.
“If the ECB were considering extending their own quantitative easing program beyond 2016, this would be an opportunity for them to do that,” said Jersey. “Other central banks like the People’s Bank of China or even the Bank of Japan could also potentially come up with additional easing mechanisms without having to worry too much about their currency really devaluing a lot against the dollar.”
Lower U.S. rates also makes slightly riskier American assets more attractive by keeping the hurdle fairly low. Jersey expects that to continue.
“Once it becomes common consensus that the Fed is going to be very, very slow once they do hike sometime, ultimately equities and corporate bonds can do very well in that environment,” he said.
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