Views on Fed Rate Hike - Peerless Funds Management Co. Ltd

by Shrutee K/DNS

On 16^th December 2015, the FOMC hiked US target range for Federal funds rate by 25 bps, making the new range 0.25% to 0.50%. This has been the first hike in US rates since 2006 and it may be worthwhile to analyse the impact of the same on global macro-economy, especially India. 

Key FOMC takeaways 

FOMC seems to have raised rates now in order to avoid bringing sharper hikes later on to avoid overheating a sharply recovering economy and to avoid overshooting the inflation targets.

Fed Governor noted that the US economy has shown considerable progress though the growth pattern remains patchy.

The FOMC felt that the hike was ‘modest’ and that going forward the process to tightening could well be ‘gradual’.

It noted that while employment parameters had shown progress, wage growth was yet to show sustained growth.

The fed Governor stated that future rate action would depend on Growth and inflation figures.

Comments

The rate hike was long anticipated and domestic markets may react tepidly in the immediate follow up of the hike.

As of now, the tenor and stance of the FOMC may be deemed as dovish. The lowering of inflation projections for the coming years (popularly known as ‘dots’) by FOMC seems to hint at a dovish leaning on part of the Fed.

The gradual nature of Fed tightening and dovish tilt could (going forward) mean better performance by INR which has been steadily losing ground to a globally strengthening USD. (this may hold good for most EM currencies).

Now that the ‘event’ of Fed hike has occurred and the forward guidance seems relatively benign, RBI may intervene more aggressively to defend the INR and we may see a relative strengthening of INR on account of that as well.

RBIs rate actions shall (of course) be guided more by domestic factors such as inflation, growth and fiscal deficit concerns. However, given our relatively benign outlook on inflation for now, we may look to corporate earnings, private capex and government spend as lead indicators to gauge the speed of economic revival in India.

We are of the view that going forward, the ability of the government to push through much-needed legislations and implement plans already drawn up shall also determine the speed of our revival.

From the domestic rates perspective, given that RBI inflation trajectory for Jan 2016 seems as good as met, strong IIP numbers and a relatively robust GDP growth for now, we continue to hold that RBI may consider a 25 bps cut before the fiscal year in out (possibly in February 2016).

We retain our view that a gradual US recovery shall benefit India in the medium to long term.