Money & Banking

Why a rate hike by the US Fed may not be a cause for worry

K RAGHAVENDRA RAO K RAM KUMAR Mumbai | Updated on January 22, 2018 Published on September 14, 2015

All eyes on US Fed chief Janet Yellen

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Trends over 50 years show hikes have almost always been followed by cuts within months

Market analysts, traders and economists are all on the edge over the possibility of the US Federal Reserve hiking interest rates this week.

But, going by the past trends, they may perhaps not worry so much. Data analysed by BusinessLine suggest that on numerous occasions in the last 50 years, the Fed has raised rates only to cut them within a few months.

For example, in August 1957, it increased the interest rate from 2.99 per cent to 3.24 per cent. But by December, the Fed had brought the rate down to 2.98 per cent. This has been repeated many times over the decades.

If the Fed, which is meeting on September 16-17, decides to raise interest rates and stays true to this trend, then it is only a matter of time before it rolls them back.

The Federal funds rate, which is currently in the 0 to 0.25 per cent band, is the interest rate at which depository institutions lend balances to each other overnight.

NS Venkatesh, Executive Director and CFO, IDBI Bank, buttressed this point.

“Going by data of the past five decades, there have been many occasions when a Fed rate hike has been followed by a cut a few months later.”



RBI’s dilemma

The Reserve Bank of India will have to contend with the US Fed action to make its own move even if it thinks the time is ripe for a rate cut considering the softening inflation.

Prakash Diwan, Director, Altamount Capital, observed that if a rate hike is announced by the US Fed, the chances of a softening later is very high. “The impact of the US Fed’s rate hike on India would not be very significant as we are not a net commodity exporter,” he said.

Most analysts believe that the action by the US Fed would prompt a reaction by the RBI.

The repo rate, the rate at which banks borrow short-term funds from the RBI to overcome short-term liquidity mismatches, is currently at 7.25 per cent.

The other view

However, not all agree. Madan Sabnavis, Chief Economist, Care Ratings, said: “A rollback by the US Fed after a rate hike does not seem to be a possibility as rates in the US are already at all-time lows. Any negative impact on the balance of payments/exchange rates due to the Fed rate cut would only provide RBI a secondary reason of holding back a rate cut.”

Published on September 14, 2015

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