Speaking at the Federal Reserve Bank in San Francisco, its chairperson, Janet Yellen spoke about the future possibility of the Fed raising interest rates this year. The Fed supremo announced that the Fed is considering taking its near zero interest rates to upward levels.
In the speech, Ms. Yellen commented that the Federal Open Market Committee is “taking a serious look into reducing interest rates later this year”. Although, FOMC and Fed may seem to be advocating improvement of interest rates, Yellen also expressed that she is wary of the negative consequences of any sudden spikes that may hurt the interests of an improving American economy that has faced stagnation for 6 long years, ever since the sub-prime crises blew up back in 2008. Hence, she emphasized upon a ‘gradualist’ approach, which should be adopted instead of any quick spikes. She was alive to the danger of damage that may be caused by sudden spurts in rate hikes, as that may have a direct bearing on the prospects of a rising American economy.
With the interest rates on the higher side, it will lead to two simultaneous changes. First, credit and borrowings will become dearer, as a result of which organizations will not be able to enjoy convenient access to credit and hence their business plans may have to be stalled or executed over longer than previously planned periods. Further, higher interest rates also mean that money will flow more easily into the banking system as investors will prefer the safer bank deposits over other less safer investment options.
With more money residing within the banking system, the availability of money for circulation in the economy will become scarce; thereby further slowing down the economy. Yellen also referred to the Japanese’ experience over the past 20 years. The Japanese economy has been struggling with a stunted growth rate as well as deflationary periods, which have become hard to handle for Japan’s policymakers.
The Fed had announced something similar earlier this month, where the Fed explored the possibility of rate hikes by as early as mid-year; however, over the preceding months, weaker economic cues such as lower consumer spending, falling housing and manufacturing projects have made the Fed cautious and delayed the rate hikes for some more time. However, Yellen does not discount the possibility of a very slow and gradual rate hike over a bunch of years together, rather than within a span of a single year.
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