US Monetary Policy throughout 2018 was a simple tale to tell; rates have increased by 0.25% per quarter, US Monetary Policy has been well signalled and the US Federal Reserve have been clear about the motivation for such a policy.
But as the year draws to an end, speculation has turned to 2019, and things become cloudy. So what factors are causing the uncertainty?
Firstly, the current levels: The fear of the end of the cycle. After each rate increase, by definition the level of rates is getting closer to what is perceived to be the “neutral rate” for the economy. This rate is estimated to be around 2.75% to 3.0%, so the closer official rates get to it, speculations begin about the end of the cycle.
Secondly, the outlook for economic growth: The immediate effects of the tax cuts are fading and 2019 looks a lot less rosy than 2018.
Finally, global economy: To put it politely, the rest of the global economy is less buoyant than it was 12 months ago. Stresses are evident in a number of emerging markets, particularly in China.
As US economic growth dips, this could mean the US Federal Reserve will be less resolute in their stance that global factors will not influence US policy.
So, how much more have interest rates got to rise in the United States? Given all I’ve said already, the maximum looks set to be around four moves of 0.25%. The minimum? Two moves of 0.25% …which follow the Fed’s 0.25% increase yesterday. This would take the upper bound of the Federal Funds Rate to 3.0%, the so called “neutral” rate. We would err on the side of caution (i.e. two rate increases) given that, in this economic cycle, interest rates have never risen as fast as one might expect, mainly because inflation has been so low throughout the recovery. This is the one factor that could take the number of rate increases higher as the US Federal Reserve has a twin mandate of both economic growth and inflation.
And what about rate cuts? Speculation is rising, partly because the US yield curve has now inverted slightly. Rate cuts seem unlikely (although it is obviously always a policy option in the event of a crisis). A more likely candidate for policy easing in 2019 could be China.
So, monetary policy divergence seems likely to be a feature of 2019 with rates in the US tending to rise and interest rates in the other parts of the globe either unchanged or lowered.