Four reasons why the Fed should not postpone a rate hike

Christopher Dembik
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A postponed rate hike might then weaken the Fed’s credibility (Source: Getty)

The probability of the US Federal Reserve ending seven years of near-zero interest rates September is stronger than is generally believed.

While there is no perfect timing for the tightening monetary policy, several arguments confirm that the Fed is able to begin this month if it so desires.

Here are the four we can see:

The Fed is on its way to achieving its dual mandate

With a 5.1 per cent unemployment rate, the US economy is very near "full employment" and is preparing to enter its seventh year of expansion.

Notably, the current period of growth is already 16 months longer than the average seen since 1945. As for inflation, the Fed has nearly achieved its goal as inflation (excluding oil and energy) lies at 1.8 per cent, very close to the 2 per cent target.

Taking oil into account, of course, inflation is down significantly. But this near-deflation situation is an external factor on which the central bank has little influence and it cannot be the only driver of US monetary policy strategy.

The Fed is aware of the 'speculative bubbles' risk

Even if preventing speculative bubbles is not officially part of the Fed's dual mandate, this is a legitimate preoccupation.

We are in a massive speculative bubble. In the United States, the excesses that led to the 2007 crisis appear to be drawing near again.

Many stock prices are disconnected from companies’ balance sheets and first-time buyers can once again take out a loan worth 97 per cent of the price of the property they intend to purchase. Coming back to a more orthodox monetary policy implies obvious dangers, but the first benefit would be to return “real” value to money.

Credit conditions will remain durably flexible

Even if the coordination of monetary policies between the main central banks is just an illusion, it does exist to a certain extent. In the event of the Fed raising its rates in September, the global monetary printing will go on. The tightening in America will be very gradual.

The Fed’s credibility depends on it

A rate hike in September has been in the consensus for months and has led to a re-positioning of portfolios in favour of USD-denominated assets since last Spring. Any backward step from the Fed could weaken its credibility and support the idea that market upheavals drive its decisions. A postponed rate hike might then blur the Fed’s message.

City A.M.'s opinion pages are a place for thought-provoking views and debate. These views are not necessarily shared by City A.M.

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