Yellen: Rate Hike Shows Faith in Economy

Federal Reserve Chair Janet Yellen met expectations and raised the interest rate by 0.25 percent yesterday. The Fed also announced the likelihood of additional increases in 2017. Financial analysts are remarking on the speed of the rate hikes, given that there was a 12 month wait between the first rate hike post the 2008 global recession, and the second rate increase in December 2016. Yellen confirmed that the U.S. economy is now strong enough to pick up the pace. The country is currently on the brink of full employment, inflation is on track to meet the Fed’s goals, and consumer confidence has reached its highest level in more than 15 years.

Janet Yellen raises rates in response to inflation.

Unemployment Low Except for Unskilled Workers

While Yellen admitted that the economy was not looking bright for low income earners, particularly those without training or advanced job skills. However, employment rates are unlikely to drop much further because the jobs that were most in demand have already reached out to unemployed applicants, and know have begun poaching staff from competitors, which would not affect unemployment numbers. Yellen has advocated for increased spending on training which is the only way to reduce unemployment long term below its current rate of 4.7 percent.

Trump’s Policy Plans Threaten Skyrocketing Inflation

At the press conference following the rate hike decision, Yellen was asked how President Trump’s policies factored in to the decision regarding both this increase, as well as the two additional increases that have been forecast for 2017. Yellen noted that there had been an increase in inflation due to possible infrastructure projects and cuts planned in both personal and corporate tax rates. The Fed Chair spoke positively about promoting economic growth, but urged caution regarding Trump’s goal of 4 percent growth per year, which is double that projected by the Fed’s policymakers. Yellen saw no conflict between the two growth forecasts. She stated that the Fed would welcome “stronger economic growth in the context of price stability.”

Critics Claim Interest Rates Are Still Below Optimal Levels

Critics from both the left and the right have attacked the rate decision. Former Fed governor Robert Heller complained about the rates. He argued for faster increases. Even with two additional moves planned in both 2017 and 2018, rates would not reach appropriate levels until 2019 if the current pace was continued. Heller, who backed Reagonomics during his term from 1986 to 1989, argued that the current rate should be at 3 percent, instead of 1 percent.

Did the Fed Boost Rates too Early?

On the other hand, more conservative economists point to the European Central Bank. The ECB’s decision was to hold off on rate increases until the inflation rate’s upward trend proved sustainable. President Trump has not yet produced a detailed budget plan. This means that the optimism that is driving the market is mainly due to sentiment. This can lead to more instability than decisions based on hard facts. This means that any changes in that sentiment could lead to a reversal quickly. But the interest rate increases would be difficult to reverse, both for economic and political reasons. High interest rates without an underlying strong economy could bring the U.S., and therefore the world, dangerously close to the unfavorable conditions that existed from 2008 until 2015.

China Follows the Fed’s Lead

China also raised rates a few hours after the Fed announcement. Both President Trump and China’s President Xi Jinping have tried to distance their economies. However, America’s economic policy heavily influences Chinese policy. Of particular interest is the point of view of Chinese investors. Many wealthy Chinese could draw funds from domestic savings to take advantage of higher rates from American banks. China’s government is also hoping to stabilize the yuan. This is important if the country hopes to attract foreign investors. Xi suggested this was a priority in his speech at Davos a few months ago.

How Will the Rate Increase Affect Trading?

The dollar is currently seeing a fall, as investors wait to see if higher interest rates slow down growth significantly. However, banks should see increased profits. The higher rates will cause the institutions to make more funds available for lending. It will also bring in more clients looking to deposit money into savings accounts. Expect share prices for individual banks to go up. Additionally, the banking industry as a whole should contribute to the Dow’s historic climb.