Down, Set, Hike!?!


By Jonathan Scheid


Unemployment is down and the economy seems set for a moderate pace of growth, so it is time for another interest rate hike? That is one conclusion we could take from Janet Yellen’s, the Chairperson of the Federal Reserve, recent comments at a central bank conference in Jackson Hole, Wyoming. But, a hike isn’t a sure thing.

Central bankers from around the world met last week in Jackson Hole to discuss the effectiveness of current monetary policy and the tools that they have to manage economy activity. During Janet Yellen’s highly anticipated speech, she said “the case for an increase in the federal funds rate has strengthened in recent months.” This sent expectations for a short-term interest rate hike occurring at some point this year higher.

The CME Group has a FedWatch tool that calculates the probability of a rate hike occurring at the remaining three Federal Reserve meetings (September, November & December) this year. Following her presentation, the odds of a rate hike increased for every meeting. The odds of a rate hike occurring by the December meeting were at 51.8% the day before her speech and then jumped to 59.1% following her speech. But, they started off this week dropping down to the mid-40s.

Expectations for a rate hike dropped because of what Chairperson Janet Yellen said following her comments about the case for an increase. She said that it is challenging to predict the economy, that monetary policy isn’t on a predetermined course, and that economic shocks and surprises occur on a regular basis making it even harder to stick to a plan. This was a long winded way of saying that the Fed is still data dependent and, while they would like to continue increasing interest rates, they will only do it if they feel the economy is on sure footing.

The U.S. economy is currently in a relatively good position, but it doesn’t seem to be overheating. The job market is strong, the services sector is booming and the manufacturing sector is expanding. Yet, our GDP growth rates still are relatively low and inflation is not near where the Fed would like it. Given that the economy isn’t growing at an unsustainable rate, most investors speculate that the data won’t fully support another hike very soon. However, data can change quickly and so can expectations.

Interest rate policy matters for a number of reasons. Following the Great Recession, monetary policy has been the main policy tool used by world governments to stimulate growth and help economies recover. It has helped in the U.S. and to a degree in other parts of the world. Interest rates also impact so many aspects of personal life and the level of business activity. It impacts how much we pay for our mortgages, the rate at which companies can borrow and the level of interest we receive from our investments. Additionally, rising short-term interest rates have also been a precursor to the past seven recessions. In those seven recessions, short-term interest rates (i.e., the rate on a 30-day bill) went higher than long-term interest rates (i.e., the rate on a 10-year bond). It will take several interest rate hikes for that to occur this time, but it is something to pay attention to.

Our parting thought about the potential of rising rates is a positive one. We are of the mindset that rising rates are a confirmation that the economy is doing well and healthy enough to handle the increase. That is a good place for an economy to be.

The views and opinions contained herein are those of Bellatore Financial, Inc. and have been researched and analyzed by Jonathan Scheid, Chief Investment Officer, Bellatore Financial, Inc.

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