The US Fed Decision- Relief for India

Some signs of nervousness were reflecting on faces of the global financial analysts and leaders before 17th September, 2015 regarding the expected hike in interest rates by the US Federal Reserve Bank. Fears grew that the US Fed rate hike could unleash a global debt crisis. But to the great relief of the global economy, the bank has decided to maintain status quo and retain the prevailing rates.

In what can be termed as a tactical retreat, the US central bank said various global risks and other factors had convinced it to delay (the hike) what would have been the first rate hike in nearly a decade. “The recent global financial developments may confine economic activity somewhat and are likely to put more pressure on inflation in the near term,” said the bank in its policy announcement following the end of a two-day meeting. It further added the risks to the US economy have remained nearly balanced but that it (bank) was “monitoring global developments.” However, the bank while lowering its long-term outlook for the economy, maintains its bias towards a rate hike later this year.

As a result, gold prices came down from a two-week high on 18th Sep, giving back some of the sharp gains from the last two days, because the decision also added to uncertainty over the timing of an eventual rate hike. Spot gold fell 0.3% to $1,127.70 an ounce, after climbing to a two-week high of $1,133.20 in the previous session. Still, the yellow metal was on track to snap a three-week losing line with a near 2% gain. Higher rates could obstruct the demand for non-interest paying bullion, while boosting the dollar.

As the bank has hinted, it would raise rates and as such the upside for gold would continue to be limited. Dutch bank ABN Amro maintains, “We remain negative on gold as the Fed would start its tightening cycle this year or early next. Investor demand for gold is mainly sentiment-driven in financial markets and if the bank ultimately hikes rates in December, the US Dollar and yields should move up. We also expect jewellery demand from India and China to increase, but this is unlikely to compensate for lower investor demand.”

On the contrary, “Physical gold demand in India is clearly weak,” says a note from Germany’s Commerzbank, pointing to a discount on local gold compared with world prices in London “already amounting to as much as $10 per troy ounce. This is surprising given that the Indian festive and wedding seasons are just around the corner.”

The Fed has also predicted that inflation would creep only slowly toward its 2% target which could be assessed as a negative sign for gold, often bought as an inflation hedge. The US dollar collapsed to a three-week low against a basket of major global currencies before eventually turning higher, while bonds rose, pushing yields sharply lower. “The Fed’s indecision may yet strengthen investors’ worries about the health of the global economy, rather than reassure them, leaving gold as one of the few lasting recipients,” Capital Economics has said in a note.

Anyways, the decision of maintaining the rates has come as a relief to the Indian and other emerging markets as it (rate hike) would have further deteriorated weak investor sentiments. According to an estimate, foreign institutional investors have already pulled out over INR 20,000 crore from the Indian markets since the beginning of September, 2015. “We were prepared for a modest hike in rates by US Fed. But it’s a great relief now, we would continue to concentrate on our stability,” economic affairs secretary Mr. Shaktikanta Das says.

Posted by Suresh Chotai