Fed Rate Hike Looks Unlikely in 2016

Why it almost looks unlikely in the calendar year 2016…

It is now a full seven months since the US Fed hiked the rates by 25 basis points. Since then, expectations of the timing of the next rate hike have been varied. The recent signals emanating from the Fed seems to almost underline that further Fed rate hikes in this calendar year are almost unlikely. Even the implied probabilities in the Fed Fund Futures are pricing in a very low probability of another rate hike in 2016. In fact, some of the contracts are even pricing in an outside possibility of a rate cut by the Fed later this year.…

William Dudley nails it…

When William Dudley talks, the global markets listen! As the Chairman and CEO of the Federal Reserve Bank of New York, Dudley is one of the key members of Janet Yellen’s team and his words carry a lot of weight. The recent statement by Dudley almost seemed to indicate that the Fed has priorities other than worrying about the next rate hike. Dudley has expressed grave concerns over the likely slowdown in UK and Europe in the post-BREXIT scenario. According to IMF estimates, UK and the EU could lose anywhere between 1.5%-4.5% GDP growth over the next 5 years. With the US having strong trade linkages with the $17 trillion EU region, the US would not be too keen to aggravate the slowdown by making rates tighter at this point of time. Dudley has almost clarified that rate hikes may be off the table for 2016.

Inflation continues to be elusive…

When the Fed first undertook the taper in 2013, its key condition for rate hikes was that inflation should come back to the 2% mark. Unfortunately, cheap oil and weak commodity prices have ensured that inflation stays under the 0.5% mark. In addition, the much touted recovery in the US economy has hardly happened and the IMF has already downgraded the global GDP growth estimates for the calendar year 2016. Crude oil has been facing tremendous pressure at the $50/bbl mark. With a slowdown looming over UK and the EU region, any sharp upside in oil prices looks unlikely. As supply disruptions in Nigeria and Venezuela get back to normal, the likelihood of a fall in crude oil prices is quite strong. At least, weak demand will ensure that.

Why spook the US Dollar?

That is a question that the US Fed is asking itself. The dollar has anyways been in a position of strength for over 3 years now. Weak economic activity in UK and EU will mean that the US$ and the JP¥ will continue to be the preferred currencies. Also, the volatility will result in a global risk-off trade, where the US$ is, anyways, likely to benefit from a sharp rise in demand for US Treasuries. The Fed, therefore, has little incentive to press the pedal on further rate hikes. Fed rate hikes look unlikely, at least, till the end of calendar year 2016! ©

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