Data out of the US seemed to warrant the Federal Reserve’s decision to raise its benchmark interest rate by a quarter of a percentage point to between 0.25 percent and 0.50 percent on December 16th 2015. Below is the data:
- Unemployment – was at 5% although the US lost 8.7m jobs during the recession it has gained 13m since then.
- Wages – have been increasing to 4% in the Q3 2015 suggest that there is little surplus labour available.
- Oil prices – may have bottomed out so this suggests inflation may pick up in 2016. As there is a pipeline effect with the impact of higher interest rates it may be prudent to increase rates sooner.
What are the concerns?
- Wages increases maybe temporary especially if young workers are enticed back into the labour market.
- Inflation is 0.2% which is well below the 2% target. Even when you take out energy and food prices core inflation is only 1.3%
- Interest rates are still very low and there is little scope for cutting them if the increase has a slowing effect on the economy
- With most Americans on fixed mortgages the interest rate increase has a limited impact on the cost of borrowing.
- A higher US dollar will make exports less competitive and Americans manufacturers will struggle evenmore trying to sell in overseas markets.
Stanley Fischer, the Fed’s vice-chair, recently estimated that a 10% rise in the dollar reduces core inflation by half a percentage point within six months. The US Fed chair Janet Yellen is unlikely to persist with rapid rate rises if they push inflation too far below target in the short term.
Source: The Economist – 18th December 2015