For the very first time in recent years, an array of indicators are signifying that present and future conditions of the Fed’s Zero Interest Policy is going to change. These conditions are due to a range of factors such as:
- An unrelenting push being made by the bond market towards a higher rate of interest.
- As is evident from the rising “break-evens” in Treasury Inflation Protected Securities, inflation expectations are relentlessly rising.
- Rebounding of oil prices.
- Gradual rise of the employment-cost index.
All of the above add up to a shifting environment, creating the perfect opportunity for the Fed to allow a small rate hike.
According to a recent note from one of Wall Street’s most treasured economists, Ed Yardeni, both the employment-cost index and unemployment rates are at the same level. This is from a decade ago when the Fed started experimenting with hiking interest rates. The environment has changed since then. Rates of interest from all over the globe have violently shifted. This clearly suggests that the risk of deflation might be thinning faster than what experts might have thought.
In fact, the recent economic growth (though uncertain) is starting to accelerate in some parts of the world, including Europe. Alternative monetary policies have now become the rule around the world, including Japan, Europe and China. This has caused much of the world to be drenched with more liquidity than ever before. However, the U.S. Federal Reserve acts as the Atlas, holding up the whole world on its shoulders, and some central banks may experience the acceleration differently.
The Fed could make a move this fall, which might prove beneficial for wholesale mortgages. Firstly, the Fed could judge both global and domestic market responses and make a move towards normalization. The preliminary rate hike would reveal to the Fed and other strategy makers the real pockets of over-leverage, early earnings of financial threats, and potentially hazardous bubbles.
Perhaps one of the most important discoveries of these preliminary rate hikes will be whether the US economy is prepared and able to stand on its own two feet. Auto sales are touching record levels, while employment is much closer to the Fed’s aim of complete deployment. If the economy falters, the Fed will have to point towards more time to recover.
However, it might prove to be the best time for the Fed to exhibit its commitment towards independence, with election time looming. The markets suggest that there will be a secular twist in the deflationary trend, which has been present for a very long time.
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