Investors eye prospects for 2017 tightening as Federal Reserve rate rise is seen as near certainty

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Markets React To Federal Reserve Decision On Interest Rates
Investors will be listening closely for signs of further Federal Reserve rate rises (Source: Getty)

The US Federal Reserve is set to raise interest rates for the first time since December 2015 as it continues attempts to move away from a period of historically low interest rates, with investors set to focus on the prospects for further tightening over the course of 2017.

The Federal Open Market Committee (FOMC) will start a two-day meeting on Tuesday before announcing the interest rate decision on Wednesday evening (7pm GMT).

A broad consensus expectation of an interest rate hike has emerged among analysts and investors, with some key indicators showing overwhelming expectations of a rise. The federal funds futures rate – which moves according to investor expectations of a rate rise – has implied a probability of 100 per cent at points in the past month.

Read more: Yellen says she's staying to 2018 and confirms "relatively soon" rate rise

Andrew Hunter, an economist at Capital Economics, said: “A 25 basis point rate hike at this week’s FOMC meeting, concluding on Wednesday, is all but guaranteed. Arguably of more interest will be whether the accompanying statement provides much insight into Fed policy in 2017 and beyond.”

Investors will listen closely for clues as to the timing of further interest rate rises over the course of the coming year. If there are no surprises in the announcement “market reaction might hinge more on FOMC members’ medium term rate expectations, as outlined in the ‘dot plot’, and on chair Janet Yellen’s press conference,” according to economists at Investec.

Investors will also have the novel experience of watching Twitter after the announcement, to see if US President-elect Donald Trump reacts to the first interest rate decision since the US election.

Trump had previously been highly critical of the Federal Reserve, questioning the political independence of the central bank's chair Janet Yellen.

Read more: Trump's no love-dove - he wants to ditch Yellen over politics, not policies

Yellen has previously said that an interest rate hike would come “relatively soon”, while noting that further delays in the rise would risk a more abrupt adjustment in the future.

Yellen has been clear that any rise would be dependent on data continuing to show a US labour market in good health. There has been little to suggest that this is not the case, with the US unemployment rate in November reported at 4.6 per cent, its lowest point since 2007, before the financial crisis.

Expectations of a rate rise have been heightened even further after the election of Donald Trump as US President in November. Investors have predicted that he will fulfil campaign pledges to massively increase infrastructure spending while cutting taxes.

Investors expect Trump’s policies to increase inflation, which could spur the Federal Reserve further in response.

The federal funds rate determines the cost for banks of borrowing money from the Federal Reserve. It therefore helps to determine interest rates offered by banks on loans to the broader economy.

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