China Turns From Foe to Friend in the Fed’s Quest to Raise Rates
China’s emphasis on stability looks to be lending support to the Federal Reserve’s efforts to normalize monetary policy, in stark contrast to the financial volatility the world’s second-largest economy sparked in summer 2015.
The minutes of the central bank’s April meeting revealed that most participants saw a rate increase in June as likely if the U.S. economy continues to improve. The odds of a rate hike in June or July implied by federal funds futures proceeded to soar as markets digested the communiqué.
But it’s not only U.S. economic data that will dictate whether Fed Chair Janet Yellen and her colleagues determine it’s appropriate to raise rates. Financial markets need to remain intact, too.
“I worry that the turbulence we saw in January and February was not a one-time event but we could get more ‘January and Februarys’ as we move closer to the next Fed rate hike,” writes Deutsche Bank AG Chief International Economist Torsten Slok.
Last August, China shocked the world with a depreciation of the yuan, one that served as the impetus for a rapid sell-off in global equities. Expectations of an imminent rate hike from the Fed, which had been on the rise, cratered along with markets.
This chaos and ensuing uncertainty over the state of the world’s second largest economy undermined the case for a rate hike from the Fed in September, pushing its initiation of a tightening cycle off to December. This episode presumably serves as evidence for the idea that the Fed can be boxed in from hiking rates by any sign of calamity in markets such as the kind instigated by China last summer.