With the December 4 jobs report delivering higher than expected job growth, a fed funds hike now seems all but certain
Nobody agrees on whether hike is good or bad news and brings to mind Newton’s third law of motion: for every action there is an opposite and equal reaction.
- Higher rates increases borrowing costs for business: Increased loan profitability increases bank lending.
- Higher rates strengthen the dollar aboard increasing American buying power: More expensive American goods are a headwind to exports.
- Higher rates benefit savers: Higher rates hurt borrowers.
In reality, nobody can predict the ultimate effect. There are simply too many variables in play. The situation is eerily similar to the fed’s controversial quantitative easing policy. Though QE led to economic expansion and a recovery, even noted investors and journalists panned it in 2008. Some samples:
Then Wall Street Journal reporter Edmund Andrews said “The long-term risks are enormous and difficult to estimate. They begin with the danger of a new surge of inflation . . . [to] hazards to taxpayers of taking responsibility for trillions of dollars in assets that may end up plunging in value. http://www.nytimes.com/2008/11/26/us/politics/26paulson.html?_r=0
Peter Schiff, chief executive of EuroPacific Capital said foreign investors would abandoned the Treasury market. “They will stop enabling us . . . They will stop buying our bonds, our currency, and the value of the dollar will drop precipitously.”
Bob Rodriguez, partner FPA Funds said quantitative easing (and stimulus) would cause the economy to sputter in fits and starts and the recession would deepen over the next six to 18 months.
Of course not everyone got it wrong, including, and most importantly, the Fed. And in current debate, investors should take note of one nearly pervasive sentiment: banks will win.
Yes, higher rates might dampen loan demand. And while there’s nothing banks can do about that, they do control what loans they dispense, and with rates going up, lending is more profitable. And on this point, the data seems to suggest more lending. Specifically, the Biz2Credit Small Business Lending Index shows that approval rates were 22.8% in October 2015, compared to 10.6% in October 2012.
And there’s one other point that seems indisputable. A rise in the federal funds rate is, at the very least, is a symbolic victory for all of us. It signals the outlook has moved from recessionary to growth. Further, this sentiment has its own positive effects: confidence impacts everything from consumer spending to corporate purchasing, and a lot of variables in between.
