Liberal Media Exposed

Monday, February 20, 2017

Financial News – Fed Policy

The recent huge fall in oil prices has wide-ranging implications right across the markets. It offers a chance for the battered precious metal sector to recover, by deflating possible gains in a rival commodity; it should boost manufacturing shares by slashing production and transport costs; and it’s likely to have a depressing effect on oil extraction and exploration stocks as the pressure to open new fields eases off. Cheap energy could help Europe avoid a new recession and reduce the specter of a new debt crisis among poorer Eurozone members. The price slump also raises a few warning flags though, and that could have an effect on the Federal Reserve’s plans.
Just a few weeks ago it looked like the Fed was ready to move ahead with an interest rate increase, signaling a definitive end to the quantitative easing programs that have been running since the 2008 crisis. That might be about to change though, as cheap oil destabilizes an economic landscape that had looked ready for more expensive lending. Low oil prices are deflationary, pushing prices down across the full range of manufactured goods and many services, and while the US economy isn’t deflating it’s certainly seeing the inflation rate slowing down. The Fed has a 2 percent inflation target and right now it doesn’t look like being achieved, so some action to correct that is likely.
Cheap lending tends to increase demand, which drives prices up, so a temporary hold on rate increases is an obvious tool for the Fed to apply. It also answers new concerns about the creditworthiness of companies in the oil sector, who’re now looking at falling profits as margins per barrel sink. That’s a real concern for the US shale industry because production costs are higher there than in the traditional oil exporters, and if prices continue to fall the break-even point isn’t that far away.
How low can oil sink? For the US producers, not much more. OPEC members have more leeway but as shale oil becomes uneconomical to produce output will fall sharply, stabilizing prices and probably driving them back up. That would be inflationary, so whatever the Fed decide to do with rates they’ll need to be ready and willing to reverse it just as fast – this is unpredictable territory.
For now the US economy remains highly levered and could be more dependent on cheap financing than the Fed had previously realized. That could mean the ideal interest rate to sustain growth is much closer to where it is now, and any rise could have unintended consequences. There’s still a lot of wariness around economic growth, which has been healthy for most of the year but shrank drastically in the first quarter. A bad holiday retail season could see that pattern repeat next year, with a chilling effect on job figures.
The Fed have a lot of interests to juggle when it comes to setting rates, but the current oil crash is a major one and getting bigger by the day. With the benchmark crude price now below $60 and still falling expect it to play a big part in whatever decision they finally make.