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Saturday, 19 March 2016 00:00
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The world’s largest economy is looking a lot more iffy

 

Given how GDP growth in the US halved between the September and December quarters, from 2% to 1%, it was always expected that the US Fed would slow down on its interest-raising trajectory—indeed, over the past few months, there has been a lot of talk of the Fed’s error in starting the rate-hike cycle too early, but that may be unfair since ultra-cheap money was also creating several bubbles which could cause more serious problems later. The Fed’s action was also expected since the biggest driver of growth, consumer spending, slowed quite dramatically from 2.04% in September to 1.4% in December. Not surprisingly, apart from holding off on an interest rate hike yesterday, the Fed also lowered its 2016 growth projection to 2.2% from the 2.4% made just three months ago; that for 2017 has also been lowered a bit, to 2.1% from 2.2% in the December forecast. So while, in December, the Fed had signalled four rate hikes in 2016, the latest estimates reduce that number to two.

Indeed, given how the Fed has consistently been wrong on its inflation target, exacerbated largely by the global deflationary impulses being seen, it is possible that even these rate hikes may get pushed into the future—the Fed has once again reduced its inflation projection for 2016 to 1.2% from a much higher 1.6% in December. The Fed’s statement makes it clear that the world’s second-largest contributor, in terms of growth, is looking more iffy than it did a few months ago. While labour market conditions continue to improve steadily, the Fed’s statement talks of both business investment and exports—thanks to a strengthening dollar—being ‘soft’. And while it talked of ‘closely monitoring global economic and financial developments’ in the last meeting, this time around it said ‘global economic and financial developments continue to pose risks’.

For India, the immediate impact is helpful since there is now one less reason forRBI not to cut rates in its next review—though, as this newspaper has pointed out, unless there is a large infusion of liquidity by the central bank, a repo rate cut is unlikely to be passed on to consumers by way of lower bond or bank interest rates. More important, given the hostile global economic situation, India should be happy with a 7-7.5% growth for the next few years since it is clear the big boost from global trade is not going to be available for the next few years. Paradoxically, the slower Fed action may increase the relative attractiveness of India as a destination for investment flows which, in turn, will prevent the rupee from depreciating as fast as India’s exporters may like.

 

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