(Yicai Global) Aug. 29 -- In her eagerly-awaited speech in Jackson Hole, Wyoming, USA, Janet L. Yellen, chair of the Federal Reserve, reiterated the policy of hiking interest rates progressively. The US and European markets staged huge swings on Friday on the news. Analysts' views diverge on Ms. Yellen's speech, but most deem the possibility of a future rate hike to have increased. Following the speech, the interest rate futures market estimates that there is a 38 percent chance for a rate hike in December, and 62 percent for a rate hike before December, up 8 and 12 percentage points respectively from previous projections. The market went short on US treasuries, and the dollar rallied on foreign exchange markets. Overall, US stocks, US bonds, oil and gold all plunged in price last week -- a rare event in the past -- indicating that market players are preparing themselves for another monetary squeeze in the world's largest economy.
Ms. Yellen stated that, in light of the continued solid performance of the labor market, inflation close to the policy target and the outlook for economic activity, "I believe the case for an increase in the federal funds rate has strengthened in recent months."Of course, she reminded investors that the decision will still depend on data in the coming months. This writer holds that this is the most definite warning about a rate hike from the Fed in recent months. Yellen's remarks echo earlier statements by William C. Dudley and Peter Fisher, declaring the Open Market Committee's determination to relaunch procedures to gradually increase the federal funds rate. The possibility that the Fed may raise interest rates in September cannot be ruled out on the back of the strong performance on the labor market in August. However, the current Fed leadership's work style and market sentiment persuade me that no rate hike will come before December or even later. The ominous remarks by the Fed's Chair are intended to prepare the market for the rate hike, rather than start the countdown to it. The decision to increase interest rates by the Open Market Committee within the year depends on sustainably strong employment data, sharp income increases and consumer confidence stabilizing at a high level. All these conditions are fulfilled today, but it is still unclear as to whether they will remain so in the coming several months. Furthermore, weakening business investment is an even bigger concern for monetary authorities. Indeed, the general situation justifies normalization of the monetary policy and a rate hike in December is highly likely judging from current market conditions, but I believe it is not necessarily a foregone conclusion.
Non-farm payrolls released on Friday become all the more important following the Fed's statement on a rate increase. I predict that non-farm payrolls rose 200,000 in August, and the hourly wage grew 0.2 percent per month on month and 2.5 percent per year. The results are relatively good, but not strong enough to lock in a rate hike in September.
The Fed is back on track to increase rates, but there is a lack of certainty, and the case is not completely convincing. The market is dubious. Senior Fed officials hold differing views on the matter and other major economies are rolling out new quantitative easing (QE) measures amid growing uncertainties in foreign exchange and capital movement. The situation is reminiscent of the events of April to June last year. I think that the market will become more volatile, rendering it susceptible to possible black swan events.
The recent rise in the London Interbank Offered Rate (LIBOR) aroused concerns among some market players. In my opinion, this came as a result of changes in the regulatory environment, rather than portending a looming crisis. From September onward, monetary funds can collect charges on redemption, prompting institutional investors to consider storing short-term liquidity in monetary funds, resulting in a net capital outflow from monetary funds. In addition, some monetary funds adjusted their portfolios and allocated more towards short-term bonds, which also led to a temporary liquidity crunch in the money market. The rise in LIBOR impacted funding costs placed extra pressure on financial institutions relying on the "LIBOR +" financing model. However, I do not think that this will trigger a new crisis.
(Tao Dong is chief economist at Credit Suisse Asia and Director of China Chief Economist Forum)