The Federal Open Market Committee raised the interest rate to 0.50 percent, effective December 17, 2015.
US Fed Chairwomen Yellen in her speech has mentioned clearly that, although the Inflation has continued to run below the Committee's 2 percent longer-run objective, the entire world was observing the US Fed rate decision and continuing with the hawkish tone set in September FOMC meeting, FED had to raise the interest rate first time since 2006.
One of the key factors for The Committee to raise the interest rate was due to considerable improvement in labor market conditions this year (lot of part timers shifting for full time jobs and unemployment rate was below average 5.1% and to add further an improvement of wage rate was a key motivator for rate hike)
FOMC was reasonably confident that inflation will rise, over the medium term, to its 2 % objective. Thus FED showed clear indication that inflation target of 2% was on medium term as compared to short term view as stated in September FOMC meeting.
Given the economic outlook, and recognizing the time it takes for policy actions to affect future economic outcomes, the Committee decided to raise interest rate effective 17th December 2015 but has made it very clear, its target for FY 2016 is set at 1.375% and will not compromise on the medium term inflation target set at 2% as a key factor for next rate hike. Therefore the stance of monetary policy will remain accommodative after this increase and the initial rumors or apprehensions of back to back immediate rate hike will warrant only gradual increases that to totally depending on the economic outlook based on the incoming data/statistic in the forthcoming quarters of 2016.
With such hawkish tinge US dollar index rose sharply after the Fed hike and U.S. yields for treasury bills are also set to go higher in coming weeks.
Effect on world economy
- China will be under pressure to devaluate its currency once again in next couple of months as it is determine to shift sentiments of the most demanded reserve currency from US to Chinese Yuan Renminbi in years to come. In turn commodity prices could witness one more correction in short term before stabilizing in long run gradually.
- USD/JPY which is considered a safe heaven will see further rise and resistance of 133~135 could be tested in coming months, making the Japaneses bond further attractive and shift of paradigm from equity to bonds is possible in coming months.
- EUR/USD parity is the next big question in mind, if ECB is unable to increase its bond buying activity as a part of their on going stimulus, investors are predicting USD = EUR in short term to medium term is inevitable and thus euro zone market could crack further and witness heavy sell off in their respective equity markets.
- India could witness few PE funds, Venture capital funds and few FII exiting the market for attractive and better risk appetite as supported by higher dollar index.
- India with its quarterly result round the corner will witness pressure due to EUR/USD correction, Yuan depreciation, commodity revaluations and higher dollar exchange (USD/INR may also witness the levels of 68~70 in coming months).
- Thus Q3 result could be game changer as well as the deciding factor for the next wave of bull run for Indian equity markets.
- India's Reserve bank could see this as an opportunity to reduce the interest rate further in short term but based on economic outlook and indicators like USD/INR, CPI, WPI, Inflation and GDP data in coming months.
- US market may have mixed view as few fund houses who exited well before the Fed rate hike decision will now look for attractive bond options and better yield prospects; where as few investor would take Fed hike as a bullish sign on the economic frontier and reiterate their confidence in US stock markets at the same time be selective in their investment decision as well as horizon.
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