In a bid to overcome the worst inflation in the United States in the past few decades, the Federal Reserve on Wednesday decided to raise interest rates. The US central bank raised the key short-term interest rate by 25 basis points, or a quarter of a percentage point. This hike will now bring the interest rate in the range of 0.25 per cent to 5 per cent.
To support growth, the US Federal Reserve has kept the interest rate near zero since the start of the Covid-19 pandemic two years ago. Meanwhile, inflation in the United States hit a four-decade high. Retail inflation reached 7.9 per cent in February for the first time since 1982. Deadly waves of the coronavirus pandemic disrupted supply chains and pushed up prices of natural gas and other essential commodities. In addition, the Russian invasion of Ukraine recently raised the price of crude to $140 a barrel, the highest in 14 years. Amid geopolitical uncertainty, the Federal Reserve decided to raise rates to slow growth and raise borrowing costs to overcome high inflation.
US Fed Rate Hike: Why Is It Raising Interest Rates?
“Inflation remains high, reflecting supply and demand imbalances related to the pandemic, higher energy prices and wider price pressures. Russia’s invasion of Ukraine is causing enormous human and economic hardship. The implications for the US economy are highly uncertain, but in the near-term the attack and related events are likely to create additional upward pressure on inflation and weigh on economic activity.
Explaining the rationale behind the rate hike, the policymaking Federal Open Market Committee said in a statement, “Inflation remains high, reflecting supply and demand imbalances related to the pandemic, higher energy prices and broader price pressures. Russia’s invasion of Ukraine is causing enormous human and economic hardship. The implications for the US economy are highly uncertain, but in the near-term the attack and related events are expected to create additional upward pressure on inflation and weigh on economic activity.”
A Fed official forecast six more hikes at the end of 2022 to raise its short-term rate to 1.875 percent. It could increase rates by half a point in future meetings.
US Fed rate hike: Impact on Indian investors
The rise in interest rates in the United States has an impact on debt and equity markets around the world. Following the Fed’s signal, stock prices have risen — the S&P 500 closed up 2.2 percent for the day. The Dow Jones also followed a similar pattern and closed up 1.6 per cent. The NASDAQ also closed higher, jumping 3.7 percent from the start of the day.
Sensex and Nifty – Domestic indices also opened positive on Thursday. Sensex jumped 1,000 points while Nifty crossed 17,200 on March 17. As investors were expecting a rate hike, the US central bank’s decision did not come as a surprise. “The explanation is that the market was oversold and consequently short covering pushed the indices higher. VK Vijayakumar, chief investment strategist at Geojit Financial Services, said the market reassured Fed chief Powell’s statement that the US economy is very strong and well positioned to handle tough monetary policy.
“Short-covering in India will also lift the markets today. After a long time, the market will be supported by FPI becoming buyers and softening of crude. There is an upside potential in the financial sector, especially in high quality private banks in which FPIs were frequent sellers.”
Will RBI change its policy stance?
Analysts believe that this may prompt the Reserve Bank of India (RBI) to re-evaluate its policy stance during the next meeting. “The rate hike by the Fed was on expected lines due to geopolitical tensions coupled with higher inflation risks. The US Treasury yield rose immediately following the FOMC announcement, but stabilized thereafter. In line with anticipated monetary tightening. The current rate hike indicates the Fed’s stance to control the prevailing high inflation in the US.Asian markets have reacted positively as the Russia-Ukraine situation entered the resolution phase, which is further supported by the stabilization of crude oil prices. Keeping this in mind, RBI may re-evaluate its accommodative stance in next month’s policy meeting,” said Shivam Bajaj, Founder and CEO, Avenor Capital.
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