Jul 21, 2015

The Future of Interest Rates & Monetary Policy at the Fed

In this video blog, Udi Sela, FX expert and trading strategist for Numerix and Jim Jockle, CMO of Numerix discuss the future of monetary policy in the US including the potential for an interest rate hike later this year. Udi addresses what the Federal Reserve might have in store and what Central Bank officials have alluded to in the most recent The Federal Open Market Committee  (FOMC) meeting. Udi also explores the impact the Greek drama and international events could have on the Fed and its decision regarding future rate hikes.

Weigh in and continue the conversation on Twitter @nxanalytics, LinkedIn, or in the comments section.

Video transcript:

Jim Jockle (Host): Hi welcome to Numerix Video Blog, your expert source for derivatives trends and topics. I’m your host Jim Jockle. Last week, Mohammed El-Erian wrote an interesting editorial for Bloomberg View outlining 5 key reasons why he expects the Fed to raise rates later this fall. While nothing definitive came out of the Fed’s Open Market Committee meeting last week, all eyes have been on the central bank’s officials, leaving market participants debating whether the first rate hike will come in September or December. Joining us today to discuss this is resident FX expert and trading strategist for Numerix, Udi Sela. Udi, welcome.

Udi Sela (Guest): Thank you very much, Jim. Good to be here.

Jockle: So, I think clearly there’s consensus that the rate hike is going to come this fall. But, would love to get some of the sense of what you’re hearing from some of the European economists.

Sela: Yeah, so everyone of course is looking at the Fed setting the tone, so from the US perspective everyone anticipates a rate hike of 25 basis points by September and 1.75 rate by the end of 2016, which means that the interest rate for financial between the European and the US is going to basically broaden. And, you know in Europe still the quantitative easing is at full speed and of course the crisis was Greece, and that needs to be resolved. So it’s two different economic cycles.

Jockle: So that brings up a really good point, obviously the Greek drama still continues to unfold as it relates to a potential bailout. What kind of impact could international events have on the Fed? Or is the Fed just going to act completely independent, regardless of what’s going on in the global economy? 

Sela: So, Jim this is truly an excellent question because one of the concerns of the Fed is that it will be a spillover. So basically, if you like, if people would be running to the dollar as a safe haven that would basically mean that deflation would be imported into the US. And this is one of the main concerns of the Fed’s given that, although employment has picked up, it is not translated into inflation. Or basically, the purchasing power of the US citizens has not been accelerated yet. And this is one of the biggest reasons for concern. So basically the Fed is quite clearly indicated this is not going to be a linear trajectory, and they will examine each time the impact of the global economy as a part of their decision making, whether they should raise in rates going forward. So it doesn’t really mean that they are going out just to, or basically it does mean that rates will be, the decision to hike rates will be taken while observing the geo-political arena. Basically, that’s what the Fed is thinking. 

Jockle: So, let’s talk strategy. So, in your opening remarks you said this rate hike has kind of been priced in already into the market place. So, from an FX perspective, what are you thinking about? What’s your outlook over the next six months, as it looks to either currency pairs or on anything pegged to the dollar?

Sela:  Let’s start with the G7 economy. So, if we look at Switzerland, we see that there is a series on deflation. Where actually the GDP is decreasing. So I suspect that eventually this will weaken, to the dollar and to the Euro, mostly to the dollar. In Japan we know that, basically the prime minister has not only won the elections, but also the campaign against the Ministry of Treasury of Finance. And, as a result, there will be no tax hikes and they want to pursue quantitative easing, so I would think that the yen would weaken further. With regards to the Eurozone, the interesting thing is that any news on resolution of the Greek crisis actually weakens the Euro. And, given the economic cycles I think it makes sense to assume that the Euro would weaken further, so we’re talking now levels of 1.12, I don’t see any reason why it will not go down towards 1.05. In the UK, the economic cycle is more adjusted with the US cycle, therefore I personally think it’s telling the strength from this level which is like 1.58 dollar to the sterling. As to emerging markets, like Mexico, like Indonesia, like India, Brazil, Turkey, the market consensus is pretty much that they would weaken further against the dollar. Although, we’ve seen tremendous rate hikes in Brazil.

Jockle:  And, Brazil I think is around 13% at this point, is that accurate?

Sela: Yes, I believe 14%. And the fact that the real has weakened so much, they are actually dumping commodity prices, like sugar, and pushing the prices of commodities down because they need to generate sufficient cash.

Jockle: So, just one final question before we close. What’s the thing that keeps you up at night over the next couple of months? What’s the thing…what would be the surprise or the thing that’s in the back of your mind right now? 

Sela: Well with regards to this context, right? So I think the one scenario that could be scary, and this is what the European politicians or bureaucrats are trying to solve, is that, following an exit of Greece from the European Union, if other countries would follow, that could be a disaster. I guess this is the one thing that concerns me most because if the UK, you know what they call the bread and butter and who knows maybe northern Europe etc, that could be extremely dangerous. I think this is the most dangerous scenario, if we’re not looking at wars, etc.

Jockle: Udi, thank you so much for talking about this and clearly we want to keep these conversations going with you, something that we’re all pretty much keen on, to see how this is going to play out –especially as we look at the third and fourth quarter of the year. And of course we want to talk about the topics that you want to talk about, so follow us along on LinkedIn or on Twitter @nxanalytics, where you can stay up to date with everything that we are talking about on our video blogs. Thank you so much Udi, and hopefully we’ll talk to you again soon.

 

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