"To raise or not to raise"



Markets hanging onto Yellen’s next move:

It seems to be a crucial year for the markets as the Fed’s Chairman hinted at an increase in interest rates once or twice until the end of the year.  Market watchdogs are thrilled to see on how the markets will behave after the Federal Reserve rate change – should it materialise.  The USA's Central Bank last intervened in December of 2008, where interest rates dropped close to 0%.  Now that is about to change, after the vice – chairman’s speech -Stanley Fischer- announcing that irrespective of the recent market wobbles,  the plans for future the Fed moves will not change.

Reasons for the change:

            The Federal Reserve is in charge of the Monetary Policy which they manage, attempting to meet government mandates for maximum employment; constant – but low inflation and allowing the economy to grow at a healthy pace.  The Fed raises its benchmark interest rate when the economy is growing too fast and the economy reaches maximum potential.  An overheating economy causes inflationary pressures and a potential 'bubble' situation.  Yellen's board believes that the appropriate time to raise interest rates has arrived. Higher interest rates will not cause too much pain on the improved financial health of households and banks and hopefully keep inflation under 2%.  Signs of an overheated situation are present, as the USA’s Job Market is booming. USA employers added nearly 3m employees in the last 12 months, being close to the levels where Fed officials expect wages to increase at an accelerated rate. 

How will the market respond?

            The Federal Reserve holds the attention of traders in. Already traders were whipsawed, looking towards their colleagues on the interest-rate desks for clues about whether they should buy or sell the dollar.  The U.S currency is moving but not picking a true direction, with the 120-day correlation between euro – dollar and the gap between two.
           

Interest-rate differences were signalling a stronger dollar when China unexpectedly devalued the yuan.  The devaluation created momentum shock waves around the world.  Rumours for Fed delaying their plans to raise interest rates started to circulate, which were rebuffed by the Fed’s vice chairman.

Devaluation has also allowed the dollar to strengthen against major currencies in forex markets.  The Bloomberg Dollar Spot Index, which measures the performance of 10 global currencies against the dollar, has tracked a rise of 7% increase for 2015.  A stronger dollar may cause a deterioration on US exports, as they will be more expensive, while holding down inflation by dampening import prices.

Conclusion:

The 'to raise or not to raise' dilemma grips the global business environment, but as the Bloomberg survey suggests, traders assign a high probability for a hike in interest rates in the months ahead.  The responses showed a 35 percent probability for September, 15 percent chance for October, a 25 percent probability for December and a 10 percent chance during the first quarter of next year.  Different opinions exist, illustrating the uncertain and upredictable outcome that the interest hike will have in the markets.  Uncertainty, emphasizes the difficult and bold call that Yellen's board are required to take.                                                                                

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