It would certainly be a risky bet to predict that US interest rates are going to stay unchanged at the next FOMC meeting. A wide majority of observers assume that the Federal Reserve will cut its rates by 25 bps, if not 50, and will probably keep going on a number of other occasions before the end of 2019, or early 2020. We won’t venture to say that this will not happen, but we think that the likelihood of a significant cut is slimmer than the consensus believes. Here is food for thoughts.
Does the US economy need a boost ?
Not obviously. Corporate investment has been partly put on hold because of uncertainty, but consumers are spending and unemployment is close to historical lows, with no meaningful sign of deterioration.
Will a US rate cut help mitigate the current economic threats ?
Probably not. Companies did not suspend their investment plans for lack of cheap financing, but for lack of visibility about demand, due to the trade disputes, geopolitical tensions, and other exogenous factors. And, as far as global growth is concerned, a rate cut in the USA will not do much for business sentiment in Europe or China.
What about exchange rates?
Keeping the strength of the dollar under control would probably be the main advantage of a rate cut. However, as long as foreign central banks are only talking of returning to very accommodative policies, there is no major reason to hurry. Moreover, US companies’ global presence and decentralized production make them less vulnerable to a strong dollar than if they were true “exporters” producing everything in domestic facilities.
Does the Fed have anything to lose in a temporary sweetening of its policy?
Yes. Two things, which are vital for its ability to act in the most appropriate manner in the future, may be damaged:
- its ability to ultimately restore a more normal monetary environment. It has often been said that investors had become addict to low interest rates. When you are just beginning to get someone off their drugs, the last thing you want to do is causing a relapse by giving those drugs back to them as soon as they start finding things difficult.
- its independence from the political power. Donald Trump heavily insisted for the Fed to lower rates even before there were any signs of slowdown, as he needed something to take over from tax cuts. A rate cut will inevitably be interpreted as a way of giving in to those pressures, and Jay Powell may not be a great fan of that option.
All in all, we realize that there are very few cases in History when the Federal Reserve dared to disappoint investors after a vast majority of them had come to expect a dovish stance. We also realize that the US central bank has often been keen to act early, because an economy is like a super-tanker, and should be driven with a strong sense of anticipation. However, we think that, were they going to make an exception, this time might be the one. What worldwide economies really need is not fuel, it is visibility into political leaders’ strategies… and that’s another story.
Graphene Investments – July 24, 2019