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8 Things To Expect Now That The Fed Has Increased Interest Rates

8 Things To Expect Now That The Fed Has Increased Interest Rates

On Wednesday, the U.S. Federal Reserve made history by raising interest rates and officially ending a prolonged period of "easy-money" in the United States. So far, global markets have reacted positively, as much of the uncertainty surrounding when the bank would begin tightening has finally been removed. Also, traders had largely expected the bank to increase rates, so many believe that any worries about the hike have already been priced in.

The bank increased its benchmark interest rates to between 0.25 and 0.5 percent on Wednesday, and released a policy statement promising to keep the pace of further increases slow. The Fed has been adamant that it will base its future rate decisions on economic data and inflation, meaning that there will be no further hikes unless data proves the economy is strong enough to withstand them.

Related Link: Your Federal Reserve Rate Hike Handbook

Now that the rate hike has finally come, most investors have begun to look to the future to see where the global economy and share markets are headed. Here's a look at eight things to expect now that the Fed has raised interest rates.

1. A Stronger Dollar

One of the most talked about consequences of an interest rate hike is a stronger dollar. The greenback gained against most of its peers on Thursday following news of the rate increase, and most expect that the U.S. currency will hold on to most of those gains. Raising rates is a signal of economic strength, a positive for the U.S. dollar.

The consequences of a stronger dollar are likely to be mixed. On one hand, a strong dollar gives U.S. residents more buying power overseas, so it's great for tourists who want to travel abroad because their vacations will be cheaper. However, it can be problematic for some U.S. firms, as it makes sales in other countries less lucrative and makes it difficult to compete against similar products priced in lower-valued currencies.

Related Link: 4 Stock Sectors Poised To Benefit From Fed Rate Hike

2. Bubble Talk To Increase

While markets have responded positively to the Fed's rate decision, there is still a question of whether share markets are in for a beating, as the effects of a long-term accommodative policy become more apparent. The general consensus is that any market disruption will be a temporary response to the policy adjustment; however, there is a chance that seven years of easy-money policies could have created dangerous bubbles on the brink of bursting.

In the coming months, analysts are likely to continue discussing the possibility of market bubbles popping, especially since the Fed's previous attempts to raise rates after a prolonged period of easing ended with a massive selloff in the bond market in 1994 and the subprime mortgage crisis in 2007. Both of those events were triggered by several converging factors, but the Fed raising rates was certainly one of them.

3. Europe To Struggle With Policy Decisions

The Federal Reserve's decision to raise interest rates stands in sharp contrast to the European Central Bank's monetary policies, which have been accommodative. The ECB has been working to restore balance across the bloc, where many struggling economies have been dragging down the region's economic performance. The bank began a massive bond-buying scheme last year in order to inject liquidity into the region's financial markets, and many expect to see the bank take further action in the year to come.

The Fed's decision took the dollar slightly higher against the euro, but not to the levels that EU officials had been hoping, leaving the region with questions about how to proceed. While the ECB's policies aren't meant to affect the exchange rate, a weaker euro is an important part of the bloc's recovery, as it makes the region's exporters much more competitive within the global market.

Most believe that the bank is keeping the exchange rate in focus when making policy decisions and that ECB President Mario Draghi will probably unveil additional stimulus measures in order to further support the region's economy.

4. Rate Talk Isn't Over

The Fed's decision to raise interest rates this week was cheered by investors tired of guessing when a move would finally occur month after month at every monthly FOMC meeting. While it's true that the initial rate increase is likely to have the biggest impact on markets, the bank has made it clear that it won't be stopping at just one rate hike.

That means the days of speculating about rate increases are far from over, as traders are likely to continue picking apart economic data and central bankers' comments for clues about when the next hike is coming. At this Wednesday's meeting, Fed Chair Janet Yellen promised the pace of increases would be slow— over the course of three years. This was reassuring to share markets, as it suggests that the bank is willing to remain cautious and keep its decisions data-driven. However, there will still be an element of uncertainty as traders try to predict the next increase.

Related Link: The Fed Won't Sink This Dividend ETF

5. Emerging Markets In Focus

With U.S. interest rates now officially on the rise, emerging markets are likely to be in focus as more expensive borrowing costs are likely to pressure their economies. This year has been a difficult one for emerging markets already, and many worry that the rising cost of debt could be the straw that broke the camel's back.

Countries like Turkey, Russia and Brazil are in a difficult position, as they borrowed high volumes of U.S. dollars when rates were being held at zero. Now that rates are rising, the cost of their debt will skyrocket at the same time their local currency is depreciating against the dollar. That combination will make repaying debt considerably more difficult.

6. Borrowing Gets Expensive

Another much talked about consequence of the Fed's interest rate decision is that the cost of debt will rise. For nearly a decade, homeowners were able to secure ultra-low mortgage rates due to the Fed's easy-money policies. However, now that rates are on the rise, most expect to see mortgage lenders raising rates in step with the Fed. The same is true for auto loans, small business loans and even student loans.

The rising cost of debt isn't expected to be dramatic, as banks will have some leeway as to when and how they pass on the rate increase to customers. Also, as the bank's rate increases are expected to be gradual over a period of three years, consumers will have time to adjust to the incremental changes. The rising interest rates will only impact new borrowers and those that secured a variable rate, meaning their mortgage payments are tied to the bank's interest rate. Those that fixed their mortgage rate when rates were low won't feel the same consequences.

7. Corporate Debt Becomes A Concern

While markets appear to be breathing a sigh of relief at the Fed's rate hike announcement, many expect investors to become more cautious about where they put their money. Corporate debt will become a much larger concern for many companies, as their loans will become more expensive and could eat up a significant portion of their profits. This is especially true in sectors like the financial industry, where many firms have a high degree of variable debt, or debt tied to the Fed's interest rate.

Related Link: The Post-Fed Case For Dollar ETFs

8. Economic Data In Focus

Economic data will be in focus in the months following the Fed's rate increase, as the bank's main objective with its policies has always been economic improvement. The U.S. economy's health will be an important indicator as to whether the rate increases are sustainable. Many believe that the falling price of commodities coupled with an improving job market will be enough to offset marginal interest rate rises and keep the U.S. economy ticking along.

However, China remains a major concern, as the nation's economy has been on shaky ground over the past year. Most are expecting Beijing to do what it takes to stabilize the economy, but if the nation's efforts fail, there is a chance that China could drag the U.S. down alongside it.

Image Credit: "FedBuilding" by TheAgency (CJStumpf) 17:46, 10 February 2007 (UTC) - Own work. Licensed under CC BY-SA 3.0 via Wikimedia Commons.

Posted-In: central bank European Central BankNews Global Top Stories Federal Reserve Markets Trading Ideas Best of Benzinga


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