Releasing minutes from their most recent meeting indicating that a June rate hike was still very much on the table, the Federal Reserve threw a wet blanket on the equity markets this week. Pursuant to that meeting, several Fed Governors conveyed the same feeling about the strength of the economy and the possibility of a rate hike in June.
Our belief is that the Fed will raise rates one or two times this year. Furthermore, we would view this as a good signal for the U.S. economy as it would suggest that the economic expansion remains on solid footing and it is appropriate to “normalize” short-term interest rates. We need to remember that the Fed has no predetermined path for tightening, and they remain "data dependent." As they have stated many times before, they will take a measured pace during this tightening cycle. Historically, this approach has not been disruptive for the economy.
That said, we realize that this time it truly is different. As such, the Fed has kept extraordinary measures in place for an extended period of time and fear of change in policy is quite high. Presumably the biggest risk to the global economy is the affect that higher U.S. interest rates could have on global currencies. The theory is that higher rates in the U.S. will draw liquidity away from vulnerable emerging markets. We believe the Fed is keenly aware of this risk and will take it into consideration before raising short-term interest rates.
Our Takeaways for the Week:
- Central banks continue to be the driving force behind capital market movements
- The Fed will be slow and measured in all actions related to tightening monetary stimulus