As the United States’ economic growth accelerates — real GDP increased at a revised annual rate of 5.0 percent in the 3rd quarter of 2014 — many believe the Federal Reserve will begin to raise interest rates. The futures market expects an initial rate hike as early as July 2015, an assumption that is built into many multinationals’ annual strategic plans.
By contrast, FSG believes rates will not increase until the fourth quarter of 2015 at the earliest.
Implications for Economic Performance
The United States is the major winner, with low rates continuing to support U.S. economic outperformance compared to other advanced economies. In turn, U.S. outperformance will benefit the manufacturers exporting to the United States. Emerging markets’ currencies are also winners; they receive a respite against continued devaluation against the dollar as expectations around the timing of interest rate differentials are pushed back.
Implications for Corporate Finance
From a corporate perspective, companies that borrow in U.S. markets can push out decisions to refinance debt or to borrow at low, fixed rates to the second half of 2015. When revisiting budget assumptions for 2015, companies should not need to assume higher debt service payments on variable-rate debt, potentially freeing up cash flow. Finally, because rates are likely to remain low for the duration of 2015, companies should have greater ability to offer attractive financing terms to partners and customers, especially in emerging markets where local liquidity is tight and dollar-denominated debt is harder to repay.
Why FSG Forecasts a Later Than Expected U.S. Interest Rate Hike
- Cheap oil lowers inflation expectations: Falling oil prices have a disinflationary impact on the economy. The Federal Reserve monitors inflation measured by the change in the price of a basket of consumer goods. With cheaper oil leading to lower production and transportation costs, producers will have a more difficult time raising prices, keeping inflation well below the Federal Reserve’s two percent target.
- Mitigating global economic disruption: The Federal Reserve considers the impact of U.S. central bank decisions on global markets. An interest rate shock that tightens capital flows to already fragile international markets is not in the best interest of the U.S. economy.
- Slow wage increases: While job growth numbers have been encouraging, there is still considerable slack in employment. Wage growth is trailing the improvement in jobs and a significant number of people remain outside the labor force. Without wages pushing up consumer prices, and without full employment, the Federal Reserve has no incentive to raise rates soon.
In summary, companies should expect that the Federal Reserve will wait to raise interest rates until the fourth quarter of 2015 at the earliest.
FSG clients can read more about our view and its implications for business planning in our upcoming 2015 Global Outlook to be released in February. Not a client? Contact us for more information.