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Market Volatility Impacts Fed’s Rates Hike

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Market Volatility Impacts Fed’s Rates Hike

Market Volatility Impacts Fed’s Rates Hike

Aug 27 2015, 12.46pm GMT


The recent market turmoil is seen by at least one influential Federal Reserve official when speaking about the effects it might have on the U.S. economy and subsequently on any decision regarding an interest rate hike in September.

Addressing a press briefing on the regional economy, New York Fed President William Dudley expressed the view that a rate hike in September “seems less compelling” than it was only weeks ago. He did however add a warning about overreacting to what he called “short-term” market moves, leaving the possibility of a rates hike in September in the air.

The comments came the day before the annual Federal Reserve August retreat which takes place in Jackson Hole, Wyoming. Global central bankers will be converging there and the current market turmoil and possible remedies should be high on the agenda.

The share selloff and subsequent market volatility that started in China came on the back of continuing weak Chinese economic data and doubts on the government's ability to influence economic growth as well as fears that the authorities are losing control of the markets.

Commenting on the situation in China, Dudley said it threatens to slow down global economic growth and create financial conditions which make it inappropriate for the Fed to raise rates in September.

United States economic data in the last few months has been positive on most fronts giving the Fed the necessary signals from the aspect of economic growth to consider the increase in rates. The effects of the yuan devaluation, as a counter to the selloff on Chinese markets, can have several side effects which could impact on any decision taken by the Fed at its next FOMC meeting in September.

Federal Reserve vice chairman Stanley Fischer said earlier this month that higher inflation has equal importance with economic growth as the two major inputs the Fed must consider before hiking the interest rate. He is due to deliver his views on inflation to the Jackson Hole conference.

The yuan devaluation has a double edged effect on the factors that related to the rates hike decision. One side of the equation is that U.S. goods become more expensive for Chinese consumers thereby reducing their appetite for American imports. Concerns about sales of Apple products and the effect that has had on the Apple share price are one example of how this can put downward pressure on economic growth in the United States.

The other half of the problem from the lower yuan is that Chinese goods conversely become cheaper in the U.S., which can have a negative effect on the inflation number. The two important indicators the Fed looks at thus move in the opposite direction to what Fed officials are looking for before increasing rates. The other important factor is that a hike in rates will further strengthen the dollar, aggravating the impact of the devalued yuan even further.

Meanwhile, yields on the 30-year U.S. Treasuries were lifted to their highest levels in three weeks as traders showed concern about market conditions going forward in the face of the current turmoil and a decrease in the likelihood a rates increase from the Fed in September.

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