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Rate-lifting in the US. And why it matters for the UKRupert Seggins & Marcus Wright
RBS Economics (@RBS_Economics)
September 2015
Before the FOMC meeting, markets put a 64% chance on the first rate rise happening this year
2
But too much focus on this misses a bigger point. US rates could stay lower for longer.
‘Lower for longer’ doesn’t necessarily mean interest rates cannot go up. It can also mean central banks trying to raise rates a little, before seeing them forced back down soon after.
Sep-15
Oct-15
Nov-15
Dec-15
Jan-16
Feb-16
Mar-16
Apr-16
May-16
Jun-16Jul-1
6
Aug-16
Sep-16
Oct-16
Nov-16
Dec-16
Jan-17
Feb-17
0%
10%
20%
30%
40%
Probability 1st rate rise happening in*...
Source: Bloomberg. *Blank entries are months in which there is no FOMC meeting
Jan-90-6%
-3%
0%
3%
6%
9%
Where the Fed Funds rate is and where it "ought" to be
Fed Funds rate that reflects QE Fed Funds RateMankiw Rule
Some traditional rules of thumb say rates should have risen already
3Source: Macrobond, Mankiw (2001), Wu & Xia (2014). Mankiw rule estimated using period 1990-2008.
About 2.5%
4Source: Bloomberg
There is about a 1-in-4 chance that US rates won’t have risen beyond 0.5% by mid-2018
And even if the Fed follows the central expectation, rate rises will be very gradual. Over-focussing on the first rise misses the bigger picture.
5
Why lower for longer?
Four things making the Fed think twice
6
Inflation is below target Inflation expectations are stable
Above average underemployment Earnings growth is not surging
Jan-05 Jan-09 Jan-13-3%
0%
3%
6%US inflation expectations for 5-10 years' time
Households Financial markets & finance professionals
Jan-00 Jan-03 Jan-06 Jan-09 Jan-12 Jan-150%
5%
10%
15%
20%
Rate of un- and under-employment
Jan-08 Jul-09 Jan-11 Jul-12 Jan-14 Jul-15-2%
0%
2%
4%
6%
PCE inflation (the Fed's favoured measure)
Mar-07 Mar-09 Mar-11 Mar-13 Mar-150%
1%
2%
3%
4%
Average hourly earnings (%y/y)
Source: Macrobond, Bloomberg
Source: Macrobond, Bloomberg
China is a big disinflationary force for the world
• Chinese export price inflation explains a lot of what’s going on at the moment
• Cheap goods from China were a key factor in the pre-crisis world of low inflation, low interest rates and increased risk-taking. They still are.
• China’s slowdown has so far led to a drop in oil and raw materials prices and a world trade recession. Both mean less inflation for us.
0
10
20
30
40
50
60
70
1971-85 1986-98 1999-2013
Causes of Inflation Variability in Advanced Economies (%)
Inflation variability caused by the same common factorInflation variability caused by Chinese export prices
Source: Financial Stability Board, Macrobond, Bloomberg
Quantitative easing is going to continue in Europe and Japan
Central banks are keeping rates down by buying up government bonds (Quantitative Easing or QE). While QE may have come to an end in the US and the UK, the European Central Bank will be carrying on until Autumn 2016. The Bank of Japan’s programme is open-ended.
020406080
100120140160180200
2009 2010 2011 2012 2013 2014 2015
Central bank purchases ($Bn)
Fed Bank of EnglandBank of Japan Bank of Japan Forecast PurchasesECB ECB Foreast Purchases
9Source: Bloomberg, Macrobond
Recent history may worry the Fed
Turkey (Jan-14)Denmark (Apr-11)Eurozone (Apr-11)
N. Zealand (Jun-10)N.Zealand (Mar-14)
Sweden (Jul-10)Chile (Jun-10)
Hungary (Nov-10)Poland (Jan-11)
Korea (Jul-10)Australia (Oct-09)
Israel (Aug-09)Norway (Nov-09)
Iceland (Sep-11)Canada (Jun-10)
477
915
1719
2122
24252526
3855
Number of months from 1st rate hike to first rate cut
Of the OECD central banks that raised rates after 2008, all have either lowered or begun to lower them again
10
Why is this important for
UK interest rates?
The Fed & The Bank of England – peas in a pod
11
Nov-72 Nov-82 Nov-92 Nov-02 Nov-120%
5%
10%
15%
20%US & UK policy interest rates
Bank Rate Fed Funds Target Rate
Source: Macrobond
This is not surprising considering: 1) how much UK trade and finance goes to the US and back 2) the US’ position at the centre of the world financial system.
US borrowing costs influence UK ones
12Source: Macrobond
Whatever the Bank of England does, many of our interest rates could be affected anyway. For example, UK government bond yields track US yields closely.
Jan-57 Jan-67 Jan-77 Jan-87 Jan-97 Jan-070
5
10
15
20US & UK 10 year government bond yields (%)
UKUS
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14
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