The US base rate increase, the first for seven years, has had little short-term impact upon financial markets. The increase from 0% to 0.25% is part of what the Federal Reserve describes as a “gradual increase” although there are no further details regarding the timescale. The US property market has been performing well of late, a fact which was mentioned by the Federal Reserve in a statement accompanying the rise, but will the increase have any impact in the short term?
Was this expected?
In reality the Federal Reserve has flirted with an increase in US base rates for some months now. A brief glimpse at long-term US mortgage rates reflects the fact that many experts had already priced a short-term increase into their calculations. Over the next few days we should see more details regarding the short to medium term path of US base rates which will ultimately be dictated by the economy.
In many ways today’s interest rate rise is a perfect example of managed expectations because markets seemed to be well aware of the rise. As a consequence we have not seen the volatility expected by many when the US authorities eventually moved to increase base rates.
It was interesting to see US mortgage rates increase over the last few weeks ahead of the expected rise in US base rates. The mortgage market in the US is very different to that in the UK because you are able to buy lifetime mortgages in the US. As a consequence, with the UK economy performing reasonably well, unemployment better than many had expected and the property market still in demand (although weakening from recent highs) many are expecting the Bank of England to follow suit.
The fact that the UK mortgage market is dominated by more short term instruments than its US counterpart will likely see more volatility as and when UK base rates finally increase. This could put a lid on the short to medium term performance of the UK property market as many homeowners have already stretched themselves financially based upon historically low interest rates.
Acting sooner rather than later
As the US authorities illustrated in today’s statement there was a need to try and forecast the short to medium term performance of the US economy because of the delay in the impact of interest rate movements. It was interesting to see the authorities suggesting the economy is more stable than it has been of late, inflation is under control and unemployment will remain at acceptable levels. Even though the authorities will still maintain a variety of financial policies, such as quantitative easing, today’s rise in the base rate would suggest the economy is starting to get back on track.
All eyes will be on the Bank of England over the coming weeks as US interest rates move higher for the first time in seven years. When you bear in mind that the UK economy has been relatively strong of late compared to its US counterpart surely it must only be a matter of time before the Bank of England acts on UK base rates?