What to expect after this week’s interest rates raise

But for all the doomsday scenarios rattling the financial markets, the impact of a one-quarter percent increase in the so-called fed funds rate – the interest rate banks charge each other for overnight loans – will likely cause barely a ripple in the USA economy. Still, Yellen continued to say that a rate increase was likely before year’s end.

The Fed’s actions have huge implications for the global economy.

In addition, markets could be facing an interruption during next week if the President and Congress trigger a partial shutdown of the government by not finishing their work on a government-funding bill of more than $1.5 trillion. Unlike some past tightening cycles – when rate hikes were created to combat rampant inflation of the 1970s or curb the “irrational exuberance” of the late 1990s – this round of hikes follows improving conditions.

BNP Paribas SA Tokyo-based interest-rate strategy head Tomohisa Fujiki is already looking past the decision this week. Already, the latest reading of the ISM Manufacturing Index fell below 50.0 for the first time in 36 months, denoting a contraction in manufacturing activity.

Student debt: Interest rates on new federal student loans – the most common type – are tied to rates in the financial markets and are reset annually for new loans.

As speculation USA rates will rise boosted the dollar, the PBOC last week allowed more yuan weakness. Even now, high-yield bond prices are at levels usually associated with a recessionary environment. Median projection says, FED will hike rates by 75 basis points in 2016 and 100 basis points in 2017. A mid-August Bankrate survey of economists found two-thirds of respondents anticipated a September rate hike, and the aforementioned WSJ poll had even more predicting an increase. If you don’t have inflation, it’s tough to see rates go higher.

EM equities will be also be exposed to complications arising from (a) USA rate normalization, (b) still exuberant valuations in India notwithstanding earnings downgrades sustaining for six years, (c) growth-sensitive EMs like India trading at more expensive valuations (growth adjusted) than developed markets like the U.S., and (d) the narrowing growth differential between EM and developed markets.

“The Fed has spent this entire year telling us they are data dependent”, said Rajeev Dhawan, director of the economic forecasting center at Georgia State University in Atlanta.

Are they right? We will know when the Fed chair Janet Yellen makes the announcement in a few hours from now. Goldman also forecasts that in the coming months, core personal consumption expenditures, the Fed’s preferred measure of inflation, would rise year-on-year, as the drop in healthcare prices from a year ago is removed from the calculation. The peak of the band is set by the interest rate the Fed pays banks on excess reserves, while the bottom comes from its reverse-repo rate.

Importantly, the fed funds rate serves as a benchmark for interest rates around the world.

Once the Fed achieves liftoff, it will have to decide how long to wait before raising rates again.

In 2006, for the last time in nine years the Federal Reserve had increased the target for the Federal Funds rate.

But maybe we shouldn’t be completely blasé about the Fed this week, because there is one area where concern might well be warranted: fixed income, particularly credit markets. Bonds denominated in dollars accounted for the rest of the borrowings.

The summer came and went, and still no rate hike.

Now that we have weighed up the viability and probability of a rate hike at the December meeting, we need to consider what the consequences of tightening monetary policy could be. This would mainly be due to a reduction in the inflation risk premium and term premium components of the USA yield.