Fed’s interest rate hike likely this week
December 13, 2015, 10:05 pm

The Federal Reserve will meet over the next two days to map out fiscal strategy, including the likelihood of a rate hike [Xinhua]

The Federal Reserve meets for two days beginning Monday and is expected to make an announcement on Wednesday.

An interest rate hike is very likely, but it is the pace of such increases that will play the greater role in US and global economic health.

Markets will be looking at how patient – and accommodative – the US Federal Reserve becomes when it maps out a strategy of gradual rate hikes over the next few years.

During the last six months of the year, markets have been sent into a spin over fears that the Chinese economy was stalling (some inadequately called it a meltdown), Greece’s EU debtors bailout impasse (thankfully, resolved since then) and the free fall of oil prices.

On Thursday, oil prices plummeted below $36 a barrel.

There are a host of reasons – pick and choose: Saudi intransigence about keeping the market oversupplied; lower demand from emerging markets which have been hit hard by the drop in their commodity exports; Iran saying it will increase its market share by one million barrels a day; or Goldman Sachs’s warning that with supply far outpacing demand, storage facilities are at near saturation points.

With nowhere left to store oil supply, prices will be pushed further down to encourage an increase in purchases.

In the end, it’s all really connected. Markets expect the Fed’s FOMC to announce a rate hike on Wednesday – the first in nearly a decade; the first since the sub-prime mortgage crisis hit in 2007/2008.

And oil prices are now at their lowest since that crisis created a financial panic that is still being felt around the world today.

Last week’s nearly 10 per cent drop in oil prices pulled US stocks down to monthly lows and threatened to erase the gains made overall throughout the year.

Volatility, thy name is global

If 2015 was the year of currency devaluation – the euro, the yuan, and economic contraction (Brazil, many eurozone countries), well 2016 is likely to be the year of volatility.

Or, at least, the year of avoiding volatility.

Last week, European Central Bank chief Mario Draghi announced that the quantitative easing program currently under way since March will be expanded by six months, while the scope of bond and debt buying will be widened.

European markets weren’t too happy, because they felt the ECB measures didn’t go far enough to punch through the cloud of recession that has hovered since 2008.

Across the board, European stocks fell, while the euro appeared revitalized against the dollar, making products from the continent all the more expensive to buy.

Inflation rates for the Eurozone hover in the -0.1 to 0.1 range – far below the two per cent the ECB says makes for a healthy euro-economy.

There’s also waning investor confidence in emerging markets. Some, such as Russia and Turkey, are locked in what will ultimately be a lose-lose economic ‘who blinks first’ in the aftermath of Ankara’s shooting down of an SU-24 in Syrian airspace.

Lagarde, left, has warned 2016 may not be thumbs up for already volatile emerging markets [Xinhua]

In October, International Monetary (IMF) Chief Christine Lagarde said that “activity in emerging market and developing economies is projected to slow for the fifth year in a row, primarily reflecting weaker prospects for some large emerging market economies and oil-exporting countries”.

The regional stability stemming from the Syrian conflict cannot be overstated as the threat of global terrorism exported by the Islamic State in Iraq and the Levant continues to be an unpredictable factor.

After the tragic Paris attacks, travel stocks understandably dropped. By the same token, Egypt’s already struggling tourism industry nearly buckled when Russian flights to Sharm el Sheikh (and Egypt Air flights to Russia) were canceled after a commercial airliner carrying 224 people crashed in the Sinai.

Year 2016

Travel stocks aside, there are four major global variables to watch out for in 2016.

The first is the gradual impact of an interest hike – even as low as 0.25 per cent – on US and global markets over the next year.

While the US went through impressive stock market growth in the past few years, it was more to do with the Fed’s fiscal policy and its bond-buying quantitative easing program which ended in September 2014.

During this time, emerging markets such as India, Mexico, and China saw incredible economic growth as the extra cash in US markets translated to FDI’s abroad and the appetite for commodities was considerable.

Once the Fed’s stimulus program ended, hundreds of billions of dollars flowed out of emerging markets and back to the US.

The second variable is a mish-mash of the dollar’s strength and global commodity prices. Both the US and Europe are importing less from emerging markets.

Ultimately, the global economic forecast is lukewarm, to say the least. The latest IMF outlook says “global real GDP grew at 3.4 per cent last year, and is forecast to grow at only 3.1 per cent this year. Growth is expected to rebound to 3.6 per cent next year”.

Oil prices, once the boon of emerging markets such as Venezuela, Indonesia and Russia, will be affected by global weather patterns – the warmer the winters, the less demand for heating oil, gasoline, etc.

The less these countries sell, the less they can balance their budgets, the less cash they have for imports and the deepening of their economic crises.

Even oil-and-gas-rich Arab countries in the Persian Gulf are beginning to reveal cracks in their energy-dependent economies.

Finally, China. When China sighed, the rest of the world tripped – as evident in last summer’s global slump triggered by the yuan’s devaluation.

The Chinese leadership is already aware that it has to quicken the pace of reforms and market liberalization.

During the fifth annual Plenum meeting of the Central Committee of the Communist Party of China in late October, Chinese leaders said they would move the economy into one that is consumption based (moving away from heavy reliance on exports), thereby making it more market-driven.

By Firas Al-Atraqchi for The BRICS Post