The US Federal Reserve on Wednesday increased interest rates by 0.75 percentage points, the highest rate hike in 28 years and the third this year. The last time Fed raised rates by 75 basis points was in November 1994
To quell soaring inflation, the US Federal Reserve increased interest rates by 0.75 percentage points on Wednesday, the highest rate hike in 28 years and the third this year. The last time the Fed raised rates by 75 basis points was in November 1994.
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The aggressive stance comes on the back of the latest inflation report that showed US consumer prices rose 8.6 percent in May from a year earlier, marking the highest rate since December 1981. Inflation surged 1 percent from a month earlier as products and services, including gas, rent, food and used cars, became sharply more expensive.
While the rate hike by the Fed is expected to tame inflation, it will not bring immediate relief as it will take time for higher borrowing costs to ease price pressures. More hikes are expected to reduce retail inflation to the targeted 2 percent level.
The Fed rate hike will have an impact on the Indian economy as it affects the global economy. The Reserve Bank of India (RBI) had already raised the short-term rates by 50 basis points to 4.90 percent in its June monetary policy.
After the Fed move, the apex bank in India too will go on hawkish mode and hike the rates. This will increase the inflation in the country. India’s current inflation rate stands at 7.04 percent and the RBI intends to bring this down to 4 percent with an upper band of 6 percent.
RBI's inflation projection gets a thumbs up but US Fed action will mean more rate hikes
Here’s a look at how the Fed rate hike will impact consumers and corporates:
Pressure on the rupee: In the Indian economy, the rate hike could further weaken the domestic currency, which has depreciated against the US dollar from 74.25 in January to 78.17 in June. Foreign investors have made a net outflow of Rs 1.92 lakh crore in the Indian equity markets in the first five months of 2022 as against a net positive investment of Rs 25,752 crore in the entire 2021. The selling is expected to continue as the Fed hinted at a further hike at the next meeting.
Gold prices may soar: The Fed rate hike will have a direct impact on rupee and gold. When dollar gains in value, the rupee value also drops and so gold bought in rupees will be more expensive. Moreover, gold is considered to be a safe bet during times of uncertainty. So, more people will look to diversify their money and not to park their money in bank deposits. This will lead to a hike in gold price.
Cost of borrowing: When the interest rates are hiked, the cost of borrowing will increase. This means banks will have to pay more to borrow money, but they will charge individuals and businesses more interest. As a result, mortgage rates will rise, and fewer people will be able to buy homes. The situation is the same for the auto sector. Businesses will bring down capital expenditure and look to spend less.
Imported inflation: Inflation could gather steam in India through the currency route. The rupee has been on a downhill slide even though the RBI has been intervening in the forex market to reduce volatility. India’s forex reserves have fallen from $640 billion to $600 billion. As India is a big importer of gold, crude and electronics, the rising cost of imports is likely to further widen the current account deficit (CAD), which may cross 3 percent of GDP in 2022-23.
Job cuts: The rising interest rates will also spark a period of slower economic growth, which could result in layoffs..
Price of gas and groceries: Even though the Fed’s rate hike is intended to tame US inflation, it is unlikely to bring down the cost of gas and groceries immediately. The Fed's rate hike can make borrowing costs more expensive and bring down demand in the economy by forcing consumers and businesses to curb spending. However, it has no control over supply shocks, which are currently being caused by the ongoing Russia-Ukraine war.
(Edited by : Sudarsanan Mani)
First Published: Jun 16, 2022 12:40 PM IST
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