When the US Fed hiked the Fed Funds Rate by 25 basis points to an upper range of 2.25%, there was little by way of surprise. The CME Fed tool had already indicated a 25 bps rate hike with 95% probability. However, the significance of this hike can’t be missed.
Fed view prevails
It is by now well documented that the US President, Donald Trump, has been under pressure from his supporters to curb the rate hike trend. Despite the comments from Trump on Twitter and other platforms, the Fed has stood by its stand to maintain the rate hike tempo. The Fed has been driven more by real factors like inflation, GDP growth and unemployment; all of which have been favoring a hawkish policy. The Fed has also indicated another rate hike in December and four more rate hikes after that. That could take Fed rates closer to 3.50% by year 2020.
Bigger worry on liquidity
The bigger worry for world market is on the liquidity front. Rates are just one side of the story and perhaps the more popular part. The really story is in liquidity, which has actually spurred the bull markets in asset classes in the last 10 years. In the latest Fed policy, the word “Accommodative” has been removed. This is a clear indication that the government may also look to gradually unwind its asset repurchase program. While fresh purchases have been suspended for over 4 years now, existing securities were renewed. What the removal of Accommodation means is that even renewals may stop, which will result in a gradual reduction in the outstanding assets of the government. But it will have an impact on liquidity. US Fed has a bond portfolio of $4.5 trillion and the ECB, BOE and BOJ have close to $6 trillion. The liquidity pinch will really be felt if others follow suit. ©