Saturday, August 29, 2015

Economy: Why The Fed Has To Hike Interest Rates In September

(Drivebycuriosity) - Will the Fed hike the interest rate in September? This question rules the headlines and moves the markets for months. I believe that Jane Yellen & Co. have to raise. The economy is back to normal, therefore the interest rate should be normalized as well.

Since 2009 interest rates are close to zero. This made sense as long the economy was weak and there was a high risk that recession will come back. But things have changed! Last week we learned that the US economy grew 3.7% in Q2 and factory orders advanced with a solid space. Retail sales are reaccelerating and the weekly jobless claims hover close to record lows ( reuters).

Yes, there is no inflations - yet. The basic (core) inflation rate (rents, medical & other services) fluctuates around plus 2% (advisor). Prices are restrained for the moment because oil and other commodity prices tumbled since last year. But inflation could come back soon if commodity price rise again. This week`s fierce oil price rally (Thursday plus 10% and the Friday added another 7% bloomberg) was a warning and a reminder to 2009 as low interest rates combined with QE kickstarted a massive oil price speculation. From spring 2009 through autumn 2009 hedge funds and other oil speculators channeled the easy money into commodities and the price of oil jumped from below $40 to around $80. The commodity rally continued through 2012 and oil prices peaked around $125. Higher expenses for commodities "ate" most of the monetray policy`s expansive effect and slowed the recovery considerably.

                                               Breaking The Inflation Mentality

An interest rate hike could curb the oil speculation (reduce motivation for hedge funds to buy oil) and therefore restrain costs for companies & leave more money for the consumers to spend otherwise. History shows that most recessions occurred when the central bank responded too late to rising prices and has to break an already cumulating inflation mentality with drastic measures.

Many plead, the Fed should not hike because they believe that the global economy is cooling. I beg to differ. The Fed should not respond to China´s stock market crash. Beijing already reacted by devaluing their currency and the Chinese central bank lowered interest rates and reduced the reserves banks have to hold. And China`s economy is backed by massive investments into infrastructure and growing retail sales. Therefore China´s economy should stabilize and resume to grow with a rate of 7% annually - especially when commodity prices stay cheap. Europe is recovering - as the recent indicators (purchasing manager indices  businessinsider) show. There is no need to save the global economy.

A Fed rate hike would also provide some clarity - at least for the moment. An interest rate raise could be seen as a sign of economic strength and would calm the markets.

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