Fed keeps rates steady: What's next?

Zee Media Bureau

Providing respite to the emerging markets once again, the US Federal Reserve maintained status quo with interest rates on Wednesday. Nevertheless, Fed indicated that the rates can be hiked by the year end if the labour market improves.

In the statement issued, the bank said, “The case for an increase in the federal funds rate has strengthened," the U.S. central bank said in a statement following a two-day policy meeting.”

The press release clearly indicated that the rate-setting committee was against any hike till

objectives related to employment and inflation were met.

Yellen's answer at Wednesday's post-meeting news conference was that there is no inflation threat, so there is no hurry; and she said that if the Fed holds off raising rates maybe even more people will find work.

Yellen defended that view by pointing out that despite the robust job growth in recent months, a number of measures in the labor market haven't improved. For instance, the unemployment rate has remained at 4.9 percent for the past three months, and that's up from 4.7 percent in May. Also, Yellen points to data showing there are still lots of people with part-time jobs who would prefer full-time work.

The Fed has held its target rate for overnight lending between banks in a range of 0.25 percent to 0.50 percent since December, when it raised borrowing costs for the first time in nearly a decade.

The central bank has appeared increasingly divided over the urgency of raising rates. On Wednesday, Kansas City Fed President Esther George, Cleveland Fed President Loretta Mester and Boston Fed President Eric Rosengren dissented on the policy statement, saying they favoured raising rates this week

At the same time, policymakers cut the number of rate increases they expect this year to one from two previously, according to the median projection of forecasts released with the statement. Three of the 17 policymakers said rates should remain steady for the rest of the year.

The Fed also projected a less aggressive rise in interest rates next year and in 2018, and cut its longer-run interest rate forecast to 2.9 percent from 3.0 percent.

But in a sign of growing confidence, the Fed said the near-term risks for the economic outlook "appear roughly balanced." That means policymakers think the economy is about as likely to outperform forecasts as to underperform them. 

Investors reacted with scepticism to the shallower rate path projections. U.S. short-term interest rate futures trimmed earlier losses and some nearer-term maturities rose on Wednesday. Before the rate decision, traders saw about a 58 percent chance of a December rate hike, and were betting on another hike in 2017.

The dissents from those wanting a hike suggested to some economists that pressure was building.

"While the Federal Reserve held rates unchanged, the highly unusual 7-3 vote points to the depth of its policy dilemma and makes a December hike more likely," said Mohamed El-Erian, Chief Economic Adviser at Allianz.

What's Next?

The Fed in December signalled that four rate increases were likely this year, but that was scaled back in March due to a global growth slowdown, financial market volatility and concerns about tepid U.S. inflation.

The economy expanded sluggishly in the second quarter and added fewer jobs than expected in August. Inflation also showed signs of stirring last month.

The Fed`s decision, which came the same day that Japan`s central bank added a long-term interest rate target to its massive asset-buying program in an overhaul of its policy framework, was widely anticipated by economists. 

The Fed has policy meetings scheduled in early November and mid-December. Economists believe policymakers would avoid a rate hike in November in part because the meeting falls just days before the U.S. presidential election.

Therefore, rate hike may not be coming anytime soon and this surely helps the emerging markets like India is stabilizing.

(With Agency inputs)