I have been pretty sure that the Federal Reserve could not and would not raise interest rates as long as it had an enormous balance sheet. I may have to change my mind soon. Central banks across the Pacific Ocean now expect the Fed to make good on its declared intent to raise the target rate. They are not the only parties making noise. The FRB Atlanta President welcomes a rate increase if the economy does not show serious deterioration. The rhetoric drip from various Fed people is now regular and all of the messaging points in the same direction.
The Fed telegraphed the tapered end of its quantitative easing for months to psychologically prepare financial markets. The end of QE did not come as a shock. The same drip campaign is preceding what increasingly looks like a small rate increase this year. Qualifying the comments with lots of “maybe” and “data dependent” verbiage gives the FOMC some wiggle room to push the rate increase further down the calendar. Despite the fuzzy language, calling a rate increase likely by the end of 2015 is an unmistakable signal that the Fed is willing to experiment.
The rate change, if it comes, will probably be the smallest increment possible. No more than a 25 basis point rise is needed to test reactions in the bond and stock markets. Such a small increase won't stress the valuation of whatever MBS garbage the Fed still owns by very much. The Fed's acolytes must have already performed that very confidential stress test, and they could not have falsified the results if they want to preserve the institution.
Central banks do coordinate with each other and the IMF. The noises from the IMF earlier this year at the height of the Greek crisis signaled that the Fed dare not make its move while the eurozone's unity was at risk. The euro is now off its death bed and ambulatory for the time being. Any further sovereign debt flare-ups in Greece, Spain, or Italy between now and September will postpone the Fed's rate hike.
Higher US interest rates are good for the strong dollar and bad for other major currencies. Rising rates will cause further pain for the gold mining sector, because gold loses its appeal as an alternative store of value when the US dollar is strong. Many base metal prices are already at multi-year lows thanks to demand destruction in China, but gold still has not tested its long-term historical average. The Fed may make a lot of gold miners poorer very soon. That is very good news for bottom-fishing value investors like yours truly.
