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Relax, the Real Fed-Funds Rate Is Still Zero

30 September 2018

The Central Bank of the UAE raised its benchmark interest rates by 25 basis points following a rate hike by the US Federal Reserve, which indicated further moves are likely this year and next.

U.S. president Donald Trump who opposes higher interest rates was quick to attack the Fed.

Mr Trump's position was markedly different when he was a presidential candidate, attacking then Fed Governor Janet Yellen and the U.S. central bank for keeping interest rates low after the 2008 financial crisis and contributing to what he said was a "big, fat, juicy bubble".

Given that the most recently quarterly GDP growth experienced in the U.S. was 4.2 per cent, effectively they are saying that the growth rate that Trump claimed in his address to the United Nations this week made the USA economy the "envy of the world" and the "fastest-growing economy in the world" (it isn't) is temporary and unsustainable and is going to fall away quite sharply.

ANALYST TAKE: "Ultimately the Fed's actual policy path will be dependent on the economic data, and if the slowdown is too sharp then three rate hikes in 2019 could be too optimistic", said Kathleen Brooks, research director at Capital Index.

In its closely watched statement, the FOMC removed a longstanding phrase which described the Fed's rate stance as providing stimulus to the economy.

He also said the Fed didn't have any precise understanding of when policy would be neutral, suggesting Powell himself may not be attaching major importance to the Fed's median estimate of the neutral rate of 2.9 per cent.

It still foresees another rate hike in December, three more next year, and one increase in 2020.

Trump sparks unintentional laughter from members of the UN General Assembly
Leftist Bolivian President Evo Morales bluntly declared that "the United States does not care about human rights or justice". Trump also commended Kim Jong Un for reaffirming his commitment to denuclearization, prosperity and peace for the peninsula.

Mr Trump publicly criticized Fed interest-rate increases earlier this year, breaking with more than two decades of White House tradition of avoiding comments on monetary policy out of respect for the independence of the United States central bank.

With the unemployment rate hovering at a low 3.9 percent, workers should be in high demand.

In an interview with MarketWatch, Alfonso Esparza, senior currency analyst at Oanda, said that the rate hike "has already been priced in, but gold traders will be on the lookout for insights on the economic projections and Chair Jerome Powell's news conference".

The Fed, created by Congress in 1913, has for a generation been given a wide berth to set monetary policy without interference from elected officials.

Trump considered re-appointing Yellen for a second term but ultimately chose Powell, who has charted a similar monetary policy. That's up from a level of near-zero between the end of 2008 and late 2015. Usually, when investors think the Fed is going to become more aggressive about raising interest rates, stocks fall but bond yields rise.

By removing that language, the Fed may be signaling its resolve to keep raising rates.

While that was little changed from its previous projections in June, it would put the benchmark overnight lending rate at 3.4 percent, roughly half a percentage point above the Fed's estimated "neutral" rate of interest, by 2020.

The PBOC will "try and maintain sufficient liquidity in the system", Jeremy Stevens, a Beijing-based economist at Standard Bank Group Ltd. said in response to the survey. The tariffs Trump has imposed on imported steel and Chinese goods, in particular, complicate the Fed's decision-making. Stocks usually do well when the Fed starts to raise interest rates because the higher rates reflect solid economic growth, which is associated with strong company profits. Indeed, should growth continue to run at four per cent-plus it would probably raise rates more assertively. "It's a risk. You could see prices moving up". Chairman Powell, in his first testimony to Congress in February of 2018, sensed the change, stating that "some of the headwinds the US economy faced in previous years have turned into tailwinds".

Relax, the Real Fed-Funds Rate Is Still Zero