Excellent observations by Komal Sri-Kumar:
The Bloomberg Commodity Price Index has dropped 30% over the past year, and by about 13% since the Fed decision in September to maintain zero interest rates. Oil prices are close to their lows during the global financial crisis, emerging market assets are under severe pressure, and China decided last week to shift its exchange rate peg from the dollar to a currency basket in which the dollar is expected to have a weight of only about 25%. The Chinese move will likely result in a weakening of the renminbi against the dollar, pushing other Asian countries and Brazil to follow suit. The Fed may have just fired the next shot in the Currency War that it started in December 2008 with the first QE program.
Domestically, the stress is already evident in the high yield market which has a big exposure to the energy sector. Expect more bankruptcies and defaults by companies hit by the plunge in oil prices, and fresh problems for lenders. US manufacturing, which has a close relationship with the rate of growth of the economy, is returning to the low levels not seen since 2012. Inflation, running well below the Fed’s preferred 2% target, is not likely to rise anytime soon with falling global commodity prices. And initial moves by major banks suggests that savers will get little relief from the Fed decision to raise rates – – while the prime lending rate was hiked immediately following the Fed decision, the rate depositors receive will remain at near-zero levels.
While the Federal Funds rate has risen from the 0 – 25 to 25 – 50bp range after yesterday’s decision, Yellen’s speeches, rather than fundamentals, will continue to drive markets. The surge in equities yesterday was the first sign that things haven’t changed much from what has driven markets since 2009. And if the Fed persists in raising rates next year even as the euro, yen and renminbi weaken, the negative impact on US exports will be felt on slowing US growth.