The US Federal Reserve, already undecided on when next to raise interest rates, now has one more reason to wait: Britain’s vote on Thursday to leave the European Union.
Not that the Fed needed another reason.
Weaker-than-expected growth in US jobs in recent months have already forced US central bankers to put off a rate hike at their meeting last week.
But while data due early next month on June US payrolls growth could help clear up doubts about the strength of the labor market, the political and economic consequences of Britain’s exit from the EU will take months or years to unfold.
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Financial markets have already spoken, emphatically, in the hours since the ‘leave’ outcome in the so-called Brexit referendum became evident.
- US equity index futures plunged and investors have rushed for the safety of US Treasuries.
- This has pushed the yield on the benchmark 10-year note below 1.5%, nearly a four-year low.
- The dollar rose by more than 3% at one stage, the most in a day since 1978.
Interest rate futures markets rallied so hard that they have erased any probability of an increase in the Fed’s benchmark overnight lending rate for both this year and next. In fact, they are pricing a possibility that the federal funds target rate may be lower in December than it is now, which is around 0.38 percent on average.
It adds weight to the camp that the Fed would be on hold. A July (hike) is definitely off the table.Mike Baele, Managing Director, US Bank, Oregon
Brexit On Their Minds
The Fed’s recent playbook suggests central bankers will opt for caution.
Market volatility in the past year, a stronger US dollar in the past couple of years that has crimped exporters profits, low oil prices and inflation, and weaker economic growth in US trading partners have kept Fed monetary policy on hold at least twice in the past year.
Fed officials’ comments in the run-up to this week’s British referendum signal this time will be no different.
[Brexit] could negatively affect financial conditions and the US economic outlook.Janet Yellen, Chairperson, US Fed
Financial conditions could tighten... Global developments, global weakness ... are really important for the setting of US monetary policy.Jerome Powell, Fed Governor
Neither, however, gave any indication of how big an impact the decision might have, and the Fed has no plans for an emergency meeting in the event of a leave vote, Chair Janet Yellen said this week.
It depends on how bad things would get and for how long they would stay bad. The problem with trying to handicap outcomes here is that there are too many unknowable unknowns.Roberto Perlo, Partner at Cornerstone Macro LLC and former Fed staffer
Global Sensitives
Joe Gagnon, a senior fellow at the Peterson Institute for International Economics, expected the Fed to raise rates once this year, so long as the British opted to remain in the European Union.
But a Brexit, he said, will throw the UK into recession, slowing US exports, payrolls expansion, economic growth to “the equivalent of at least a 25 basis point hike” in Fed interest rates, Gagnon said.
It could mean no rate hikes this year.Joe Gagnon, Senior Fellow at the Peterson Institute for International Economics
If the slowdown deals a severe blow to Europe, which in Gagnon’s view is a less likely outcome, the Fed could be forced to delay interest rate rises further.
However, not all subscribe to that view. Capital Economics economist Paul Ashworth, for instance, predicts a “trivial” impact on the US economy, given that US exports to the UK account for less than half a percent of GDP.
Leave or remain, this probably isn’t going to affect Fed policy.Paul Ashworth, Economist, Capital Economics
Yet global events have repeatedly stayed the hand of the Yellen Fed, which is already reluctant about curtailing what has been a modest recovery from a deep recession in 2008.
Eventually, however, US employment, wage rises, inflation and economic growth will most likely enable the Fed to normalise interest rates, even though the full impact of Brexit won’t be known for years.
(Fed policymakers) can’t just put policy on hold for several years - that’s not going to happen.Joe Gagnon, Senior Fellow at the Peterson Institute for International Economics
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