We believe that the Fed will not cut the interest rate at this month's policy meeting. The market needs more evidence of a slowdown in the US economy.
Right now, it is a billion-dollar question if the Federal Reserve will cut rates in July.
Much debate in the investor community across the world is going on about the Federal Reserve's next move. Recent comments by Fed chairman Jerome Powell have further raised hopes of an imminent interest-rate cut.
If that happens, it will be a dramatic reversal of the Fed's gradual approach to monetary tightening it had embarked on a few years back.
A steep drop in US Treasury bond yields in recent weeks indicates that the market is penciling in an interest-rate slash by the Fed in coming months.
In recent months, inflation has been stubbornly low. It fell to 1.6 percent in June, from 2.9 percent in the corresponding period the year prior. This is below the Fed's official 2 percent target.
The US unemployment rate fell to 3.7 percent in June, from 4 percent a year ago. In May 2019, the unemployment rate was 3.6 percent, the lowest since 1969.
Hence, despite a huge contraction in the unemployment rate, inflation has not been increasing. Other economic data, too, show that the economy has been on the decline in recent months.
The US ISM manufacturing PMI fell to 51.7 in June 2019, from 60.0 a year ago. US ADP employment declined to 102,200 in June 2019, from 221,000 in a year earlier.
The Empire State Manufacturing Survey has fallen to 4.3 in July, from 22 in the corresponding year-ago period. Factory orders, durable goods, retail sales and industrial productions are falling as well.
Further, the trade conflict between the US and China may have negative consequences on the US economy. Recently, US President Donald Trump and his Chinese counterpart Xi Jinping have agreed to resolve the trade conflict between the world's largest economies. However, this is easier said than done.
With the 2020 election in mind, Trump would be more relentless in trade matters. In May the trade deficit widened to $55.52 billion, from $44.35 billion a year ago. Trump has been a vocal critic of the Federal Reserve, and has been pressurizing the Fed to cut interest rates, threatening to fire Powell if he does not do so.
Hence, there is immense pressure on the Fed to cut the interest rate. Fed officials are divided. Some are in favour of an interest-rate cut; others are against it. Some are arguing for an 'insurance' cut as a guard against weaker growth and low inflation. This implies that the Fed would not make additional cuts.
However, we believe that the Fed will not cut the interest rate at this month's policy meeting. The market needs more evidence of a slowdown in the US economy.
In the first quarter of 2019, US GDP growth increased to 3.1 percent, up from 2.2 percent in the preceding quarter. Strong growth is being seen in the job market. There is widespread chatter about a recession in the US. As a result, the Fed might preserve the firepower for when most needed. Overall, the economy is still booming and does not require a further fillip right now.
(The author is Research Analyst - Currency and Commodity at Anand Rathi Shares and Stock Brokers)Disclaimer: The views expressed by experts on moneycontrol.com are their own, and not that of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.The Great Diwali Discount!
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