The Federal Reserve is widely expected
to raise its benchmark interest rate
by a quarter of a percentage-point
the Fed's reasons for moving
reflect its fear of
losing credibility with the markets
as much as its mastery of the economy
America's job market
has been booming.
The unemployment rate at 5.3%,
is close to levels
at which Fed officials expect wage increases
to accelerate
But despite low unemployment
wage growth has so far been modest
That suggests that wage-driven inflation
may yet be some way off
the Fed's preferred measure
inflation on the price index for personal-consumption expenditure
is just 0.2%
There is little sign
that underlying inflation is about to exceed the 2% target
Fed's chair chalks up
some of the shortfall
to a strong dollar making imports cheap
That effect should dissipate
if the dollar's ascent stops
There is also less scope
for the oil price to plunge
This suggests inflation may pick up
in turn argues for a rate rise soon
But
The risks of tightening too much too soon
still seem greater
GDP in America has risen at an annual
average rate of around 2% since 2010
The strong dollar
and weakness in emerging markets
will weigh on America's economy
The divergence
between the Fed's tightening
and looser monetary policy
means that
the dollar is likely to strengthen further
Forecasts suggest that
interest rates will rise by a quarter-point
roughly every three months in 2016
Such a schedule of increases
would unsettle the bond markets
and drive up the dollar yet further
The Fed's concern
is the American economy
but sluggish demand abroad
and a strong dollar
have effects on exporters
If it hikes too soon
then very low inflation
might quickly become deflation
how the economy reacts to the rise
is hard to predict
Most American mortgages
come with fixed interest rates,
The first rate rise
will nudge up the cost of borrowing
but only very slightly
Nor is a rate rise
likely to slow investment much
business confidence
is probably more important
If rise is a signal that
economy is healthy
investment could even rise
If rising rates
cause American goods become still more expensive abroad
Then
another surge in the dollar
is unlikely
since a rate rise in December
is now widely expected
However
raises rates faster than markets expect
the dollar may well rise further
dampening inflation quickly
The more plausible risk is that
America's central bankers are acting too soon
and the signs of a slowdown in the global economy
may show up next year
If that proves to be the case
equities will suffer
while Treasury bonds will do fine
Before attempting a second rise
America's central bank should give itself time
to assess the impact of the first