Should the FOMC Raise Interest Rates?
The FOMC has two primary responsibilities, to Foster full employment and to keep inflation at a moderate pace, but there is no additional responsibility defining direct reactions to either financial markets or investors. Of course, in the effort of attempting to satisfy the mandates appointed to it the FOMC must understand financial markets, they must recognize the risks that financial markets recognize, but reacting to the whim of Wall Street is not something that the FOMC should ever do.
Unfortunately, at least in her most recent few appearances, that is exactly what Janet Yellen has done. As far as Wall Street is concerned, she has been saying everything right, she has been doing everything they have wanted her to do, and it is not a surprise that financial markets are higher.
In fact, since the last FOMC meeting financial markets have rallied aggressively and they are arguably within striking distance of all time highs, at least the Dow Jones industrial average and S&P 500 are, so financial markets have been satisfied at least so far.
Considering the stressed financial markets in relation to a decision on whether or not to raise interest rates, however, is now an argument that will not exist. Financial markets, at least within the United States, are not nearly as distressed as they seemed to be last time, in fact investors are not only confident, but they expect higher levels, which is very interesting given the fact that earnings are dismal.
Either way, investors are willing to assume risk, and they're doing it because the FOMC has created a landscape that makes them comfortable. The FOMC has suggested that it will not raise rates, at least Janet Yellen has suggested this, and in doing so offered solace to a market that does not want to see rates go higher. Expectations are that she will do the same thing this time, but the FRB may not be supportive.
Although we heard plenty of comments after the FOMC meeting last time, the meeting itself seemed to be relatively quiet and the governors accepting of the no action decision, but I expect that to change this time. I expect much more debate, a more defined disgruntled board, and although I do not expect interest rates to go higher I do expect the FOMC to continue to lose credibility.
Pointing towards inflation and full employment, very few economists would argue with the employment numbers. Yes, we can always talk about the quality of those jobs, and the number of people that are actually putting themselves into the workforce, but those debates are not new, and I expect them to continue forever, and so do most economists, so they are looking at the raw numbers and the raw numbers are telling them that we are at full employment.
Inflation is another issue, because we have arguably been in a deflation risk environment, but lately that has all been because oil prices have declined so aggressively. This is something that the FOMC also addressed last time, but their references suggested that they expected the decline in energy prices to be transitory, which would imply that pressure on inflation as that is derived from energy prices would abate and that deflationary measure would actually look more inflationary when oil prices increased.
Interestingly, oil prices have increased, substantially so in fact, but those numbers are not yet showing up in our inflation data. We are likely to see them soon, but for now all we know is that the FOMC considered the deflation in energy prices to be transitory, suggesting that they in fact believe inflation levels are and will be more in line with their mandates looking ahead.
What does this mean?
In summary, we're not expecting the FOMC to raise rates, when we introduce our longer-term macro economic analysis, THE INVESTMENT RATE, into that consideration we further don't believe that they should raise interest rates either, but the FOMC does not review our macroeconomic work in conjunction with their decisions, they look at the available data that we see from sources like the bureau of labor statistics, shown below.
The data supports raising interest rates, and now the stock market does too, but we do not believe that Janet Yellen will raise interest rates, and yes we believe the decision will be primarily hers. At least, she will be the major influence and there will be plenty of disgruntled opinions to follow. She will, without saying it, play to the whim of Wall Street.
Largely, we expect this to diminish the respect the FOMC has even more, which in turn will make the FOMC less capable of satisfying financial markets when the going really does get tough.
In many ways, the FOMC, by not raising rates when the data supported it, fostered a progression of a bubble, and now the stock market is pressing all time highs while earnings are deteriorating. The FOMC influenced buyers to step into a market that seriously lacks value.