The US Federal Reserve’s (Fed) chairman Jerome Powell last week said that he will wait longer before cutting interest rates as inflation in the US remains sticky. This has rattled the markets. Mint looks at the implications of this development for India and the rest of the world.
Why did Powell talk of delayed rate cuts?
For the third consecutive month, various inflation indicators in the US exceeded expectations. For instance, the US economy continues to grow faster, adding jobs robustly on the back of strong retail sales despite the interest rates being at a 23-year high. This has prompted Powell and other Fed officials to reset the clock on rate cuts. They want more sustained evidence that the inflation is moving towards the stated objective of 2% (it was at 3.5% in March) and have indicated that they will keep the rate steady as long as needed. Thus, interest rates in the US are set to remain higher for longer.
Why has this rattled the markets?
Until recently, Fed officials had been indicating that the time had come to start cutting interest rates in the US. But with inflation refusing to ease, they have turned hawkish. The markets, which had priced in a series of rate cuts this year, are now correcting. Also, the Fed’s decision has pushed up bond yields in the US, triggering an outflow of capital from emerging markets. This has strengthened the dollar while weakening other currencies. Emerging markets are forced to take corrective action. That apart, both governments and private sector are deep in debt and consistent high interest rates will be costly.
When will the rate cuts happen now?
Earlier, Fed officials had suggested the possibility of at least three rate cuts in 2024. But as things stand today, they will be ‘later’ and ‘fewer’, if at all they happen. The first cut, originally expected as early as June this year, may now happen only towards the end of the year. As against three rate cuts, experts expect just one or, at best, two rate cuts in 2024.
How does this impact the global economy?
Central banks have been waiting for a cue from the Fed to cut rates. They will now be forced to wait. This will mean a delayed revival of economic growth for the countries in the European region. And China on Monday decided to keep its interest rate steady amid a weakening Yuan. A rate cut would have helped the country revive its economy, which has been sluggish post-covid. A higher interest rate regime will slow the global economic growth—pegged at 3.1% for 2024 by the International Monetary Fund.
What about the impact on India?
Rising US bond yields have triggered an outflow of capital from India. Since 12 April, foreign institutional investors have offloaded ₹15,763 crore of investments. This has put the rupee under pressure. It hit a new low of ₹83.61 forcing the Reserve Bank of India (RBI) to intervene in the market to stem the fall. A weaker rupee risks pushing inflation up as imports, especially oil, becomes costlier. RBI will now delay a rate cut and this will come in the way of accelerating India’s economic growth.