Fed less inclined to raise interest rates early as US inflation expectations decline

Recent turmoil in the markets has increased speculation as to when the Fed may raise interest rates. Many investors were expecting an earlier interest rate hike but recent weak global growth has resulted in declining US and global inflation expectations. Two factors that have contributed to the global slowdown are China’s slowing growth and the Eurozone struggling to achieve sustainable growth and a knock on effect of this is a declining US inflation expectation. The Greenback has been rising due to these two factors which have caused commodity prices to fall as these are denominated in USD. Inflation has been the key number that the Fed has been looking at so a slowdown in expectations may mean the Fed could delay the rate hike. James Bullard (President of the Federal Reserve Bank of St. Louis) stated that he would like the taper of QE to be put on hold. The reason behind this is due to the global slowdown and weak growth will lead to the labour market loosening up which is not what the Fed wants. With the taper on hold and effectively resuming QE, this will provide liquidity in the market and dampen the effect of the slowdown. This may preserve the hard work that has been done by the Fed however, it will need more data to decide whether to pause QE or not but it looks highly unlikely. 

Weak global growth has been affecting Australia negatively. The fall in commodity prices has largely caused the decline in global inflation expectations. Some commodities, such as grain, have fallen in price due to over production. However, precious metals, which are important to the Australian economy, have fallen drastically due to low demand and one of the reasons for this this is China’s slowdown in output. On a side note, two weeks ago the RBA held interest rates at 2.5% which has been kept constant for more than a year. This indicates that the RBA is playing the waiting game keeping their rate stable until the Fed raises its interest rate thereby making the Aussie dollar cheaper. With this recent turmoil, the RBA may have to wait longer as the Fed will be cautiously monitoring the markets. Any damaging movements may mean that the Fed will push back market expectations of the rate hike (Q2 2015). However, the RBA may lower interest rates if this occurs, to achieve a cheaper Aussie dollar.