Don't Count on 3 Rate Hikes from the FedBy Kira Brecht
Thursday December 22, 2016 11:31
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(Kitco News) - Dec. 21 – After a 12-month wait, the U.S. Federal Reserve delivered just one interest rate hike in 2016, despite expectations at the start of the year for three or four.
Could 2017 follow that pattern as well? Don't be surprised if unexpected conditions arise that could derail the path toward Fed monetary policy normalization.
The Trump Wild Card
The actual impact of Trump fiscal policy may be a wild card for how markets trade in 2017. Financial markets are pricing in expectations for faster economic growth and inflation in 2017, based in part from President-elect Trump's proposals of tax cuts, deregulation and infrastructure spending.
"This massive stimulus package is unlikely to be not offset by spending cuts and higher taxes. After all, a revenue-neutral package wouldn’t provide much stimulus. This would raise deficits, put pressure on the Fed to raise interest rates, and possibly overheat the economy," says Philip Diehl, 35th Director of the U.S. Mint and current President of U.S. Money Reserve.
It remains to be seen what will actually emerge from the proposals. "Who knows what he’ll actually propose to Congress, or what Congress will approve?" Diehl says.
The $64,000 Question: What Will the Fed Actually Deliver In 2017?
At the latest Fed meeting, Fed Chair Yellen telegraphed intentions to hike interest rates three times in 2017. Not all agree this will happen.
The Fed will not raise rates three times in 2017, Diehl says. "The Fed was able to squeeze modest GDP and employment growth from the economy only by abandoning its interest rate plans for the year. Slow economic growth at home and volatile geopolitical and economic conditions abroad derailed the Fed’s plans for 2016. These conditions will deteriorate in the New Year," Diehl says.
Rob Lutts, CIO of Cabot Wealth Management and author of The Great Game of Business: Investing to Win, expects just one interest rate hike in 2017. "Yellen told us they all expect three in 2017 – most do not believe it," Lutts says.
Factors That Could Derail the Fed
There are a number of potential factors that could derail the best intentions of the Federal Reserve to normalize monetary policy in 2017. These include recession, geopolitics and the BRICS nations.
Beyond those risks, the Fed has other factors to weigh as well. Aging demographics and a potential increase in protectionist trade policies around the world could constrain GDP growth, McDonough says.
"The Fed is walking a bit of a tightrope. They may have a greater degree of leeway than before, when they were really the only game in town in terms of healing the economy, but they need to be careful to not normalize for the sake of normalizing – if growth dynamics have not actually changed significantly," McDonough says.
Will Trump Threaten The Fed's Independence?
Another point of contention in 2017 could become be Donald Trump’s reaction to the Fed. "This is a new potential source of volatility that the bond market has not had to contend with in the past, a President-elect’s reaction to the monetary policy being carried out by the Federal Reserve," McDonough says.
"We have not seen direct reaction to the most recent Fed meeting but that does not mean that this is off the table – he has opined on Fed action in the past, McDonough says.
McDonough highlights two points traders may want to consider:
What It Means For Gold
The rising interest rate environment has been negative for gold over the last three months, Lutts says. "I do feel gold will bottom this year and will eventually reflect higher inflation trends over a three to five year period. Gold will sell for over $2,000 an ounce by 2019," Lutts concludes.