US markets still fear four interest rate hikes

Could the US Federal Reserve raise interest rates four times this year after all?

After new Federal Reserve chairman Jerome Powells first press conference last month, the issue appeared to have been all but put to bed.

Interest rates were going to rise as markets had originally expected, he suggested.

That implied three interest rate hikes – rather than the feared four – this year.

But US bond yields continue to creep up. On Monday the price of a 10-year US Treasuries rose to 2.96 per cent, perilously close to the psychological barrier of 3 per cent, over which markets are sure the Federal Reserve will be forced to hike rates more quickly and more


Why is 3 per cent psychologically important? For starters, the last time bond yields were as high as 3 per cent was in 2014.

Economic conditions

This itself shouldnt mean interest rates have to rise; after all, they didnt in 2014. But the circumstances are different this time.

Rising US Treasury interest rates imply falling US bond prices, which means rising yields. Falling bond prices also suggest traders are expecting US inflation to pick up, forcing Americas central bank to keep raising interest rates.

And then theres the Quantitative Easing (QE) factor. The US Federal Reserve started the process of Quantitative Tightening (QT) – in which it buys less bonds than in the past in an effort to push them back into the financial system – some time ago now. So its difficult to gauge how much of this is actually inflation-driven at all.

But at the same time, the US is at virtually full employment, with an economy thats still going strong – at least for now – and US average wages are rising.

Theres been some evidence that inflation is picking up but even if it is, wouldnt it be fairly healthy if inflation did pick up? Estimates for March showed Consumer Price Inflation standing at 2.4 per cent compared with a year earlier, but the Consumer Price Index fell for the first time since May 2017.

Confusing data

Meanwhile, the US Federal Reserve has used the Personal Consumption Expenditures Price Index – which excludes food and energy – and this has remained firmly below the central banks 2 per cent target since mid-2012.

As in the UK, much of what the US Federal Reserve does may depend on what the first quarter GDP estimate tells us. Well see that on Friday. If the US economy was shown to have grown strongly in the first three months of the year, it may encourage the Fed to hike interest rates a fourth time this year.

But a fourth rate hike still feels a long way off. Its possible, but there are too many known unknowns at present. The complexity of unwinding QE, coupled with the US economic growth story and wildly different measures of inflation, arent making matters any easier. Whats likely to follow is more volatility. Markets a fearful of a fourth rate hike this year, regardless of whether it actually materialises.

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