Impact:
Neutral (India Capital Market)
Brief: In
the current circumstance one must consider two fundamental changes. One, at
2.89%, the US 10 year GSec yields are now trending lower than their 2018 peak
of over 3%. Two, the US LIBOR is rising beyond the level of 2.8% primarily
because of Fed’s normalizing balance sheet as banks have comparatively lower
liquidity than they had before.
The US FOMC decided to increase
interest rates by 25 bps, taking the Fed Fund Range to 2.25 – 2.50%. The
committee concluded the year with four rate hikes, including the one in
December. Governor Powell was quick to point out that initially, the FOMC was
looking at three rate hikes, which would have put the Fed Fund Range at
2.00-2.25%, but as the year progressed, there was a need for an additional hike
as the economy came out to be stronger than expected. Inflation was forecasted
to be 1.9% for FY18, a number that is slightly lower than the target 2%. The
growth has been recorded at 3% for the entire year, stronger than most
anticipated but lower than the September forecast by 10 bps. Unemployment rate,
which is a critical parameter for the Fed – was recorded at 3.7% for the
current year. While there has been no change in this department, one must
consider the fact that the target range is 4% and anything lower means strong consumer
demand and possible inflationary tendencies.
For the next year, the FOMC is forecasting
a GDP growth 2.3% as on December 2018 – a number that is 20 bps lower than the
September expectation. Given this deceleration of the economic momentum, the Fed
has lowered its expectation pertaining to the recovery. Hence, for the
forthcoming year, the committee expects to hike rates no more than two times in
comparison to three expected earlier. This however comes with the unemployment
rate coming at 3.5% in 2019 - even stronger
than the previous year. We reckon the committee will wait and watch until more
data is available and things evolve in the macro economy.
In the current circumstance one
must consider two fundamental changes. One, at 2.89%, the US 10 year GSec
yields are now trending lower than their 2018 peak of over 3%. Two, the US
LIBOR is rising beyond the level of 2.8% primarily because of Fed’s normalizing
balance sheet as banks have comparatively lower liquidity than they had before.
What this means for emerging markets like India is that flattening yield curve
(because of rising rates and high demand for long term US debt) may not
necessarily benefit their markets as liquidity is sucked out (under the
reversal of Quantitative Easing). We therefore remain cautious regarding both
exchange rate and foreign investments. Having said that, the evolving global
situation pertaining to the political risk and the recovering US economy will
hold the key. Numbers will therefore do the talking as we move forward.
US major macro variables trend
Indicators (%age)
|
2013
|
2014
|
2015
|
2016
|
2017
|
2018
|
GDP growth
|
1.8
|
2.5
|
2.9
|
1.6
|
2.2
|
2.9
|
Inflation rate
|
1.5
|
1.6
|
0.1
|
1.3
|
2.1
|
2.4
|
Unemployment rate
|
7.4
|
6.2
|
5.3
|
4.9
|
4.4
|
3.8
|
Fed Fund range
|
0-0.25
|
0-0.25
|
0.25-0.50
|
0.50-0.75
|
1.25-1.50
|
2.25-2.50
|