Talk about a rise in interest rates at the Fed’s September meeting has been fueled by hawkish comments from Fed officials. Fed Chair Janet Yellen said that rates were likely to rise this year depending on data, while St. Louis Fed President James Bullard said that there was a better-than 50 percent chance of rate rise in September.
This past week has seen gold prices tumble to five-year lows and U.S. oil prices dip below $50 a barrel for the first time since April. Commodity prices in general have been hurt by weak demand and a rise in the U.S. dollar. Most commodities are priced in dollars, so a rise in the currency makes oil and gold more expensive for holders of other currencies.
This is causing confusion in both the bond & stock markets as investors try to figure out what economic data will trigger a rate hike.
Some analysts claim that the broad selloff in commodities and U.S. dollar strength are disinflationary which points to their argument that the Fed will hold off any rate hikes until December or not at all in 2015. The Fed will wait until the CPI (Consumer Price Index) moves into positive territory. They argue that a stronger dollar will also weaken the export portion of the U.S. economy.
Other analysts say there is another way to look at the selloff in commodity prices. The fall in oil, for instance, puts more money back in the pockets of consumers and businesses, which helps boost growth and reflate the economy longer-term. The bigger picture points to an economy that is recovering, a strengthening labor market and interest rates that are at emergency low levels which are no longer necessary.
As a Canadian, I am somewhat baffled by the move by the Bank of Canada to cut interest rates last week lowering the value of our dollar. A rise in U.S. interest rates in September by the Fed would have had the same effect! Unless, the Bank of Canada thinks that the Fed will hold off raising rates until December or early January. The only other reason for lowering interest rates is fear of a possible recession in the Canadian economy.
Considering that commodities make up 50 percent of the Canadian economy. A lower Canadian dollar, for example, will help our oil patch. Oil sold at $48.00 U.S. a barrel converts into $63.00 Canadian. The problem lies in the fact that foreign investors don’t want to buy Canadian stocks because the value of our dollar continues to depreciate.
What could happen if the Fed raises rates in September?
- Price of gold, oil and most commodities will fall in price
- Bond values would go down and bond yields would rise
- Interest sensitive stocks would fall in price
- Canadian & Australian dollar will fall further
- The Toronto stock market would sell off