Fed Talks Hawkish, But will the RBI Follow Suit?
The FED announced the minutes of the FOMC meeting held on 15-16 December on 05-January 2022. The tone of the FED was a lot more hawkish than the markets expected.
Summary of FED Minutes
a) The US economy may not be at full employment but it is as close to full employment as required to justify a more hawkish stance. The FED is not likely to wait till the jobs get back to pre-pandemic levels.
b) The US FED is concerned about the liquidity in the system. In the December policy the FED had front-ended its timetable for taper and now proposes to complete the entire tapering by March 2022. The minutes indicate that if the situation warranted (as represented by asset price bubbles), the taper may be completed even earlier.
c) On the subject of interest rates, there are two indications. Firstly, the rate hikes are likely to start immediately after the taper is completed or even simultaneously based on the inflation.
The FED is seriously worried about the inflation situation which has now stayed above the 6% mark consistently. Secondly, there could be more than 3 rate hikes in the year 2022, if the situation so warranted.
d) In its policy statement in December, the FED had dropped the terminology “temporary” to describe inflation. While the FED admits the inflation is still due to supply chain disruptions and rising demand, it has reconciled to the fact that inflation will stay at elevated levels for much longer.
The moral of the story from the FED minutes is that with above 6% inflation, the US FED cannot afford to keep interest rates at the current level of 0.00-0.25% for much longer. The rate hikes could be quicker and sharper.
What do the FED minutes mean for RBI policy stance?
For the RBI, the December policy was more an interim policy and the driving factor was the rising Omicron cases in India. In the last one month since the policy was announced by the RBI, the cases of Omicron have only gone up sharply. It now promises to trigger full-fledged lockdowns in several cities and towns to contain the spread of the virus.
Will this development impact the RBI stance? To a large extent, Yes. RBI is likely to adopt a more pragmatic approach to rates and will not be keen to hike rates unless there is a clear ratification that growth will not be hampered. The MPC has already hinted in the December policy that they would still prefer to focus on GDP growth as the primary driver.
Regarding the US situation, there has been a lot of gap between what they have announced and what the FED actually did. RBI would probably wait to see if the FED goes on a rate hike binge or continues to be constricted by Omicron fears.
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