Interest Rate Views: March 2010 - OCBC Wealth Management

Fed unlikely to raise key rate until employment data improves

26 February 2010

Rhetoric from various Fed Presidents indicates the U.S. central bank is likely to keep its benchmark interest rate at the current level for a longer-than-expected period.

It is unlikely that the Fed will want to choke off the current anaemic growth by raising interest rates too quickly. We may have to see better U.S. economic data, coupled with improvements on the employment front, before the Fed starts to move on rates.

Euro-zone

The ECB has kept its benchmark rate at 1 per cent as the economic recovery in the Euro-zone has been uneven at best and cost pressures have been largely subdued. We expect the ECB to hold its benchmark rate steady at least in the first half of this year. The key risk to this view would be if inflation spikes above the ECB's 2 per cent target, although this looks unlikely for now.

U.K.

The BOE has signalled that its quantitative easing program may cease soon in view of the recovering economy. Some evidence of this recovery can be seen from the economic numbers released in the U.K. recently, like the PMI Manufacturing Index for December which came in at 54.1 versus an expected 52.

Of greater concern will be the inflation rate in the United Kingdom. It stood at 2.9 per cent in December versus expectation for a 2.6 per cent rise. It was the first time since May last year that the inflation rate exceeded the BOE's 2 per cent target, putting unwanted pressure on the central bank to raise interest rates even as the country continues to battle with a recession. However we do not think that the BOE will raise interest rates, although it may be forced to do so if inflationary pressures continue to build up.

Australia

The December 2009 inflation rate of 2.6 per cent came in higher than the market's expectation for a 2.1 per cent gain, and it was the fastest pace in nine months. This has led to renewed expectations that RBA will hike its key rate by 25bp to 4 per cent. The improving employment situation also contributed to expectations of another imminent rate hike, as the unemployment rate slipped to 5.5 per cent in December last year after the economy added about 35,000 jobs, exceeding the market's expectation for a 10,000 jobs gain.

With better-than-expected economic numbers in general, it appears likely that the RBA may continue to raise interest rates to ward off potential inflation.

New Zealand

Market speculation has been for New Zealand's interest rates to rise sooner rather than later, but the recent set of economic numbers out of the country continues to show that recovery has been relatively weak.

Market participants appear to have priced in a 2 per cent rate hike for this year, although this could be fairly optimistic given the poor economic data thus far. We are still looking for rates to be hiked towards the second half of this year, although any hikes are likely to be fairly limited.

Japan

We do not see any rate hikes in the foreseeable future as Japan continues to grapple with deflation and poor growth prospects.

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