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Fed’s tightening not justified with inflation still below 2 per cent target

Discussion in 'Fundamental Analysis' started by FXStreet_Team, Nov 4, 2015.

  1. FXStreet_Team

    FXStreet_Team Well-Known Member Trader

    Oct 7, 2015
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    FXStreet (Mumbai) - It is well known that the economic recovery in the U.S. has been consistently weak leading the Fed to repeatedly push back the timeframe for raising rates. The U.S. Fed has maintained that the appropriate time to raise rates is when sustained improvement in the labour market is attained and when it is “reasonably confident” that inflation will move back to its 2 per cent target over the medium term.

    The debate today revolves around how soon the tightening should occur. The question that plagues the fed’s presidents is what poses a greater risk- raising rates too slowly or raising rates too quickly. They worry that postponing the decision to raise rates might lead inflation to become too high while raising it quickly might disrupt growth.

    FOMC members support December rate hike

    After the third round of QE came to an end, the Fed announced that “it likely will be appropriate to maintain the current target range for the federal funds rate for a considerable time.” The decision to keep rates at zero till date has sparked debate over whether the Fed is normalizing policy too slowly to maintain price stability. Most FOMC members believe it would be appropriate to raise the federal funds target before the end of 2015.

    Inflation has lingered below the Fed’s 2 per cent target for more than three years now while prices in the U.S. rose 0.3 per cent in the 12 months through July. Fed Vice Chairman Stanley Fischer is of the opinion that “there is good reason to believe that inflation will move higher” when factors impacting rise of inflation such as oil and a strengthened U.S. dollar, dissipate.

    To further strengthen the argument in favour of a rate hike, the non-farm payroll reports which stated that companies have added 1.5 million positions this year was highlighted.

    Rosengren admits to uncertainty about inflation

    Boston Fed’s president Rosengren observed that recent reports on wages and salaries point towards few signs that the “tightening labor markets are translating to increases in wages and salaries consistent with reaching 2 per cent inflation”. He did however add that “there’s an awful lot of uncertainty about inflation”.

    Federal Reserve Governor Lael Brainard Brainard has also spoken about the steady improvement in the labour market and how the slack in the economy has reduced. However she too did mention that core inflation is below target and some measure of inflation compensation has dipped even lower.

    Why it is not right yet to go for monetary tightening policy

    The U.S. Federal Reserve that has engineered recovery post 2009 depression is currently less worried about the job market. They read the slowdown in payrolls' growth as a sign of near-full employment. It is evident from the statements of the Fed presidents that they are convinced the time is right to raise rates.

    Once the rate is upped the money circulation will tighten and consumer sentiment will take a hit. There will less to spend which will adversely affect inflation. Given current and forecast conditions, it thus does not seem wise for the Fed to go for immediate tightening.
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