US economy readying for December liftoff

An overwhelming number of economists polled are expecting rates to increase within the next month; 92% of Keynesian economists surveyed by the Wall Street Journal are of the opinion that the benchmark Federal Funds Rate will rise at the next FOMC meeting on December 15/16.
That the USD has been consistently strong is the reason why the rate increase was delayed several times. The obtuse language used by the Fed and its policymakers has been hard to read by economists and analysts. However, the slew of data about the rate hike has confirmed expectations of rates being raised within a month. The U.S. economy has endured several shocks as a result of China weakness and the concomitant commodity price rout. Strangely though, only specific sectors of the U.S. economy have been feeling the effects of global weakness. It is the very use of monetary policy that is capable of achieving the economic objectives as set out by the Fed. This is done by way of monetary expansion or monetary contraction, oftentimes in tandem with fiscal policy measures such as variations in government expenditure or taxation.

FED DECISION DELAYED TO PROMOTE GLOBAL STABILITY
Since the USD has been performing strongly of late, as is evident by the US dollar index, the Fed has enacted monetary expansionary measures to counteract the negative impact of a strong USD.
By flooding the market with more dollars, the demand for dollars declines and its exchange rate falls accordingly. In this particular instance, a strong US dollar has not been counteracted by further monetary expansion; rather it has been counteracted by inaction vis-a-vis interest-rate hikes. Sometimes, the impact of not taking action has just as much of an effect on the overall outcome as taking decisive action.
Had the Fed decided to act in 2014, the USD would have strengthened a lot quicker and this would likely have caused irreparable damage to the U.S. economy and the global economy too.
The most obvious concerns for policymakers include USD strength and global economic weakness. Those are precisely the reasons why a September rate hike was rejected. However, by October 28, the Fed statement neglected to mention anything about ongoing global economic events or related developments in the financial world.
The December 15/16 meeting is different on many levels; the US economy has now proven itself to be resilient and it is performing well. As such, the FOMC appears to be satisfied with the progress being made on multiple fronts. This includes price stability, and maximum employment. That the Fed has been targeting an inflation rate of 2% is well known, and many of the economic indicators reflect strong progress being made towards that target.

KEY PLAYERS WEIGH IN ON FED RATE HIKE
There is no doubt that global growth is being hurt by weakness in China. Ultimately, the synergy between different components of the global economy will impact on U.S. economic performance. Realistically, the US has very little leeway in terms of what it can do with the current level of interest rates. The adverse effects of poor global performance will be difficult to counteract with interest rates at 0.25%. As such, there has been a greater emphasis on cautionary economic actions.
New York Fed president William Dudley has also been tightlipped about what he sees happening with the Fed decision in December. He agrees that rate hikes are likely to take place, but he’s expecting this to unfold slowly. The future remains uncertain and Dudley readily admits to the difficulty involved in monetary policy decisions. Had the inflation rate kept up with expectations, the decisions on the ground would have been that much easier to make.
Even though his comments are dovish, William Dudley has alluded to now being very close to the time for a rate hike. There is a slew of data between now and December 16 to consider, but all signs are clearly pointing in the direction of a rate hike sooner, rather than later. An unemployment rate of 5.0% is a good sign, and strong October non-farm payrolls growth certainly gave plenty of impetus to the December liftoff.
The US dollar index closed the trading week on Friday at 98.80. This is an important barometer of overall USD strength as measured against other currencies including the SEK, the CHF, the GBP, the CAD, the JPY and the EUR.
US GDP has steadily been increasing from 2009 when it topped out at $14,418.7 bln to the 2014 figure of $17,419 bln. In the quarter ending September 30, GDP growth was measured at 1.5%. This came in marginally under expectations of 1.6%. Another GDP forecast will be announced on November 24 with Q3 as the reference point. The consensus estimate is 1.5%. The all-important core inflation rate increased to 1.9% in September, from 1.8% in August. This is inching ever closer to the 2% threshold set by the Fed.

A CONTRARIAN PERSPECTIVE: HOW RATE HIKES HURT THE U.S. ECONOMY
The Fed has been toying with the notion of raising interest rates for quite some time. However, the decision to raise rates is an important one since it has far-reaching implications on the domestic economy and the global economy. For starters, full employment will not be possible and production will start to decline. As it stands, housing prices are inflated, as are bond and equity markets. By keeping interest rates at the abnormally low levels they are at, the Fed can accommodate economic growth by removing barriers to growth.
But it is impossible to keep interest rates at their current level for too long. If there is nothing to be gained by holding money in a fixed interest-bearing account, credit will be shunned. Savers will be completely discouraged if they believe that no yields will accrue from their accounts.
The Fed has been shifting the goalposts every time it gets close to raising interest rates and this tactic is widely used by central banks the world over. Third time’s a charm? That much will be revealed in the not too distant future.

Please note that this column does not constitute financial advice.