Despite Trump rebuke, US Fed seen continuing steady course of rate hikes

Washington

DESPITE booming second quarter growth in the US economy, the Federal Reserve will hold its fire and leave lending rates untouched this week as it awaits more signs of inflation.

But the central bank, which kicks off its two-day policy meeting on Tuesday, is still widely expected to hike interest rates twice more this year, as inflation mounts, the jobless rate falls and the economy continues to soar.

This plan of action has not gone over well at the White House, however.

President Donald Trump earlier this month publicly chastised the Fed for raising interest rates that he says counteracts the economic benefits of tax cuts.

That political interference is casting a shadow over the meeting.

After boosting the benchmark lending rate in March and June, the US economy has continued humming, with inflation at last hitting the Fed's 2 per cent target rate.

Most economists say the central bank has every reason to stick to its current course of gradual increases, which has seen the federal funds rate rise seven times since December 2015.

Futures markets overwhelmingly expect rate hikes in September and December, with the probability only increasing after Friday's blockbuster report that the GDP grew 4.1 per cent in the second quarter, the fastest pace in four years.

"At least right now, the economy still looks pretty strong, more than strong enough to keep the unemployment rate coming down," Jim O'Sullivan of High Frequency Economics told AFP.

While most economists expect growth to slow in the rest of the year, Mr O'Sullivan said: "Momentum looks up and chances are momentum will only continue to look up if the unemployment rate continues to fall." Still, Mr Trump told CNBC he was "not thrilled" about the Fed's plans to continue tightening and took to Twitter to say America should be allowed to recoup the losses before rates rise again.

Economists solemnly warn that politicising monetary policy invariably leads to misfortune. And the Federal Reserve is legally and fiscally separate from the federal government.

The Fed has not reacted to Mr Trump's comments, pointing reporters instead to earlier remarks by current Chairman Jerome Powell, who said central bankers kept political independence "deep in our DNA". And analysts warned that openly challenging the Fed's independence could backfire.

Former Fed vice-chair Alan Blinder told AFP he would have defied such interference. "My attitude would have been, and I believe the attitude of most members of the Federal Open Market Committee would have been, to stiffen our backs and show that we're not taking instructions from the White House."

And Mr Blinder said that Mr Trump's interference could create static in the Fed's efforts to signal its intentions to markets - which prevents undue turmoil when a new move is announced. If the Fed is seen as yielding to Mr Trump's pressure or overreacting by tightening policy more, markets could begin to second-guess their motives.

"We don't want either," Mr Blinder said. "It is foolish for the president of the United States to make their job harder." Evolving economic circumstances could prove especially challenging for the Fed with trade disputes creating uncertainty and raising prices, the housing market weakening, and consumer confidence cooling.

Add to this rising oil prices and sluggish wage growth, and central bankers could be left with hard choices.

While the US economy may be roaring ahead, American consumers face the prospect of paying more for everyday goods, due in part to trade tariffs.

Higher inflation also typically accompanies increased macroeconomic growth, which was estimated on Friday at 4.1 per cent in the second quarter by the US government, the fastest level in six years.

JJ Kinahan, chief market strategist at TD Ameritrade, said it was still premature to view inflation as a major worry. "What makes me hesitant on inflation is not how it starts but that it can rise really quickly," he said.

Economists fear that a sudden surge in prices could spark more aggressive interest rate hikes from the Federal Reserve, which could itself derail growth. AFP