With the Federal Reserve raising key interest rates by 25 basis points, the US is back on a path toward normalization after the extraordinary measures taken during the financial crisis, and analysts believe the country can handle the increase.
Bob Johnson, our director of economic analysis at investment research firm Morningstar, said the Fed's recent move to raise funds rate and the discount rate, and some reverse repo operations, were all designed to change short-term interest rates.
“I think that it's great to have the security of knowing that they've begun to normalize, that they're aware that certain things are heating up a little bit, and that they're beginning to react to that. That's good news,” Johnson said in a video interview.
“I don't think that this quarter-point move is enough to move the needle. I'm not racing out to change my forecast because they raised rates. And even the 1% or so, which is the projection for the year ahead, their projection is about 1.4% for the Fed's fund rate, and now they've just put it up to 0.4%, so about a 1% increase over 2016 in terms of interest rates. I think even that move really won't do very much to the economy.
“Just as an example, the average car loan, where the rate should move pretty much one-for-one with the rate that the Fed sets, would add probably $15-$20 to a $25,000 car loan. So, really, not a huge impact on the economy in the short run. We mentioned that mortgage rates are tied more to long-term, and they've already come back up a bit. As we mentioned, the long-term bonds ... they're going to continue to reinvest, so I won't expect to see a huge move up in the 10-year, and hence, the mortgage rates. So it won't have a big impact there, even if we see a 1% move in the next year in the Fed funds rate,” he said.
But even if the US economy can withstand higher rates over the next couple of years, there are questions over whether that's going to have a negative impact on the rest of the world.
“I think it can have some unforeseen consequences in emerging markets. Certainly in emerging markets, you have companies and countries that have more of their debt that's denominated in dollars. And clearly, as we raise rates, the 1% change in rates won't kill them, but if it causes a big move in the currencies because people draw out all of their money to take advantage of that slightly higher rate and the greater certainty of the US economy, well, then you've got a problem. If you're paying back in dollars in that country, into a US dollar that's very strong, it puts a lot of pressure on those emerging markets,” Johnson said.