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Why a rate hike by the US Fed in December is more likely than ever

03 November, 2016

The US Federal Reserve on Wednesday made a strong pitch for an interest rate hike in December, even as it voted to keep borrowing costs unchanged just days before the 8 November presidential election. 

The Fed’s decision to hold interest rates comes amid a continued improvement in the US jobs market, signs of an economic revival and inflation inching toward its 2% target rate.

The decision to stand pat now also increases the chances of the central bank going in for a rate hike next month. In fact, some analysts put the possibility of that happening at as high as 80%. The Fed last increased rates in December 2015, after a gap of nearly a decade. 

“The Committee judges that the case for an increase in the federal funds rate has continued to strengthen but decided, for the time being, to wait for some further evidence of continued progress toward its objectives,” the Fed said in its statement following Wednesday’s vote. “The stance of monetary policy remains accommodative, thereby supporting further improvement in labor market conditions and a return to 2% inflation.”  

The spectre of a future rate hike and the possibility that Republican party presidential candidate Donald Trump could edge past his Democratic rival Hillary Clinton spooked the US markets, with the Dow Jones Industrial Average closing down 77 points, below 18,000 for the first time since 7 July, and the Nasdaq Composite dropping 0.93%. The S&P 500 fell 0.63%, registering a loss for the seventh straight day. 

An increase in interest rates would signal a degree of buoyancy in the US economy and could prompt foreign institutional investors (FIIs) to pull out of emerging markets like India, at least in the short term. This, even as FIIs turned net sellers of Indian debt last month. Data compiled by the National Securities Depositories Ltd show that in October, FII outflows from Indian markets were of the order of Rs 10,300 crore, more than half of which was because of debt outflows. 

In December, the Reserve Bank of India (RBI) will also take a call on interest rates, in its last policy review during 2016. Last month, the Indian central bank had taken many by surprise after it cut interest rates by 25 basis points (bps) even as it said that global growth projections remain a worry, especially for emerging markets like India. The RBI has been steadily lowering interest rates since the beginning of 2015 from 8% to 6.25% at present.  

Bank of America-Merrill Lynch said in a recent report that there is room for a further 50 bps reduction in rates by April, but several other experts have said that a cut in December may be out of the question. 

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Why a rate hike by the US Fed in December is more likely than ever

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