What higher interest rates mean to your wallet

23 Dec 2015 | Author: | No comments yet »

Calm Acceptance as Fed Enacts Its First Interest Increase in Seven Years.

There was a rare consensus among brokers and market experts that the US Federal Reserve’s rate hike was a non-event for the Indian markets, with most saying a marginal increase had already been priced in. WASHINGTON — The Federal Reserve’s much-anticipated “liftoff,” its first interest rate increase since the financial crisis, unfolded as quietly and smoothly as Fed officials could possibly have wished.Federal Reserve chairman Janet Yellen speaks during a news conference in Washington, Wednesday, following an announcement the Federal Reserve raised its key interest rate by a quarter-point, heralding higher lending rates in an economy much sturdier than the one the Fed helped rescue in 2008.

Shares of Red Hat Inc. gained in Thursday’s extended session after the open-source software provider posted results that beat analysts’ expectations. Red Hat reported fiscal third-quarter earnings edged down to $46.9 million, or 25 cents a share, from $47.9 million, or 26 cents a share, a year earlier. The long-expected but modest increase in the federal funds rate also boosted the dollar to a fresh two-week high against a basket of major currencies, while Wall Street snapped a three-day rally. Australia’s S&P/ASX 200 is down 1.4 per cent within the first half-hour of trade, while futures tip Japan’s Nikkei to climb 0.2 per cent and for Hong Kong’s Hang Seng to slide 0.1 per cent.

While the Fed’s first hike (in a decade) was on expected lines, there is no certainty about when and how it will move with respect to subsequent hikes. The unanimous decision of Fed policymakers to raise interest rates for the first time in almost a decade, however, comes at a time of feverish debate in the US presidential race when the loudest candidates are winning over everyday Americans who feel left behind by the recovery.

She added that policymakers were hoping for a slow rise in rates but one that will keep the Fed ahead of the curve as the economic recovery continues. “To keep the economy moving along the growth path it is on … we would like to avoid a situation where we have left so much (monetary) accommodation in place for so long we have to tighten abruptly.” New economic projections from Fed policymakers were largely unchanged from September, with unemployment anticipated to fall to 4.7 percent next year and economic growth hitting 2.4 percent. As the head of research at a multinational brokerage firm points out, no one knows how the rate hike announced on Wednesday will impact the US economy. Rates are being increased when there is still severe economic inequality, a lightning-rod political issue that has drawn the same kind of support to Donald Trump on the right and Bernie Sanders on the left. The Fed statement and its promise of a gradual path represented a compromise between policymakers who have been ready to raise rates for months and those who feel the economy is still at risk from weak inflation and slow global growth. “The Fed is going out of its way to assure markets that, by embarking on a ‘gradual’ path, this will not be your traditional interest rate cycle,” said Mohamed El-Erian, chief economic advisor at Allianz. Brent and U.S. crude oil prices fell and remained near multi-year lows after fresh supply builds at the delivery point for U.S. crude futures added to worries about a global glut and strength in the dollar.

The Fed said on Wednesday that it would raise its benchmark interest rate to a range of 0.25 to 0.5 percent, ending a seven-year period of near-zero interest rates. Lower oil prices again weighed upon Wall Street, with Brent crude, the international benchmark, settling 0.9 per cent weaker at $37.06 a barrel after trading as low as $36.81 and reapproaching Monday’s seven-year low of $36.33. Ltd, says, “In the near term, there are disappointments in terms of reforms and sluggish recovery, which could weigh on investor sentiment.” Based on its most recent fund managers’ survey, analysts at Bank of America Merrill Lynch wrote, “Global fund managers’ positioning in emerging markets remain near record lows, as they perceive the region to be a value trap with a weak earnings outlook, sharply slowing China growth and see continuing headwinds from a stronger US dollar and higher bond yields.

Fed officials believed the “wealth effect” from quantitative easing would benefit the broader economy – akin to the Republican premise of trickle-down economics – by allowing people with more valuable assets to spend more. The Dow Jones industrial average .DJI fell 252.98 points, or 1.43 percent, to 17,496.11, the S&P 500 .SPX lost 31.16 points, or 1.5 percent, to 2,041.91 and the Nasdaq Composite .IXIC dropped 68.58 points, or 1.35 percent, to 5,002.55. A recession in China remains the biggest tail risk for global investors.” Investors now think China’s growth is likely to slow to 5.5% by 2018 (down from 5.9% last month), the report added.

The Fed is raising short-term rates in a new way, by paying banks and other financial firms not to offer loans at rates below the bottom of its benchmark range. MSCI’s all-country world index .MIWD00000PUS lost 0.7 percent, even as the pan-European FTSEurofirst 300 .FTEU3 index jumped 1.3 percent to close at 1,434.48.

The 20 richest Americans have amassed a fortune that is larger than all the wealth of the least wealthy half of the population, 152 million people, according to a recent study by the Institute for Policy Studies, with the biggest income gains coming in the last six years. On Thursday, however, firms offered only $105 billion to the Fed — less than the $114 billion average daily sum offered to the Fed during testing over the last two years.

Almost 50 per cent of US aggregate income went to upper-income households in 2014, up from 29 per cent in 1970, Pew Research said in a report last week showing a hollowing-out of America’s middle class. Yellen, the Fed’s chairwoman, emphasized that the central bank planned to move gradually, a term she has previously suggested means that the Fed will raise rates by about one percentage point per year.

However, yields on the benchmark 10-year Treasury notes US10YT=RR fell to 2.2322 percent, up 16/32 in price as investors turned their attention to timing of the next hike. Still, if the government is able to push ahead with reforms and there is greater evidence about the economy’s recovery, investors may still well flock to Indian shores for the lack of alternatives. Banks and credit unions may decide to keep interest rates on savings low while cranking up rates on mortgages and other consumer loans, using the higher rates to recover fees and boost profits. Wage growth has barely moved (rising at around 2 per cent per annum and a lot more slowly than the 3.5 per cent rate the Fed considers healthy) and employment of prime-age working people between 25 and 54 remains remains below pre-recession levels.

Alternatively, low rates are necessary to preserve the modest pace of economic growth, and increasing them too abruptly could push the economy into recession. The Fed’s preferred measure of inflation — an index of personal consumption that excludes volatile food and oil prices — rose just 1.3 percent in the 12 months ending in October. That’s their first job and their second job is to achieve full employment,” said Carl Weinberg, chief economist at High Frequency Economics. “With that dual mandate, that’s really all they can hope to achieve, and somebody else is going to have to come up with policies to address income inequality and broadening the reach of the economy.” If, after January 2017, that “somebody else” is one of the Republicans leading the party’s race to the White House, the Fed can expect major changes. Some of the party’s candidates want it to be less independent and to ignore unemployment when it sets interest rates. “The money as it’s created through quantitative easing or other means tends to start out in the big banks in New York,” he said in November. “And because we’re now paying interest for them to keep the money there, much of that money has not filtered out into the economy.” Texas Senator Ted Cruz, who is second in the Republican presidential polls, wants the Fed to get back to a “rules-based monetary system, not with a bunch of philosopher-kings deciding”.

Yellen and other officials have argued that temporary pressures like the fall of oil prices and the strength of the dollar are suppressing inflation, and that the strength of the labor market is a more important indicator. The political-kings must choose more urgent action to correct rising inequality, an unintended consequence of nine years of emergency measures by the Fed, and coronation time is less than a year away.

Levin, a professor of economics at Dartmouth, said that change was important because the Fed’s forecasts had been “persistently mistaken” in recent years. “It will be helpful for policy makers to explain what sorts of inflation readings over coming months would make them comfortable,” said Mr. The report said banks struggling to hit profit targets were loosening underwriting standards, particularly in high-growth areas like auto and construction lending. “In the area of credit risk, the warning lights are flashing yellow,” Thomas J. Jeremy Stein, a former Fed governor who has returned to teaching at Harvard, has observed that higher rates have the virtue of addressing even unknown problems.

Banks were quick to take advantage of the Fed’s announcement on Wednesday to raise the rates they charge on many loans but not the rates that they pay to depositors. Yellen, asked about that on Wednesday, suggested she did not see great reason for concern. “We have a far more resilient financial system now,” she said, “than we had prior to the financial crisis.”

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