The FED’s Looming Policy Action
- Daniel Telele
- Sep 7, 2015
- 2 min read
Months of speculation over the United States Federal Reserve Board’s (The FED) September decision on the reserve rate will end this week. The 2-day conference begins September 16th and all eyes are on Chairwoman Janet Yellen who will release the Board’s final decision for the Federal Funds Rate. The rate set by the FED is a reserve requirement for depository institutions and alters the capital reserve requirements for banks. There are 3 policy outcomes: (1) a rate hike, which ultimately decreases the availability of capital in the market, (2) a rate decrease, which increases the availability of capital, or (3) no change in the current rate.
The 15-year downward trend peaked at 6.5% (May 2000). In response to the 2007 financial crisis the Board decreased the reserve rate to 2% (April 2008). Since then, the rate has been gradually lowered—hovering around 0%—in response to the recession and to encourage economic activity. Increasing the money supply, thus the availability of cheap capital, has likely contributed to the recent rebound in domestic growth. However, the debate continues over whether domestic growth and sluggish international economic performance could sustain a rate increase at this time.
Proponents of a rate hike point to progress in the US housing market, positive employment figures, and increasing consumer confidence indexes to illustrate the stability of post-recession recovery. Yet many opponents of a rate increase are hesitant—stating that these figures are unstable and do not indicate the likelihood of continued grow. Further, given the USD’s dominant position in the international economy, any action taken by the FED must take into account current conditions of and potential impacts to global financial markets. If the Board elects for a rate rise, a contractionary monetary policy, disincentivized investment could have severe impacts on the already weak international market place. One the other hand, if the rate is lowered or left at the current rate (near 0%), the FED loose will its main tool for combatting recession and controlling inflation domestically. With critical risks at both ends of the spectrum, stakeholders are impatiently awaiting a decision.
*Written for the Crack 40, BIG--Finance Association at Grenoble Ecole de Management
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