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World markets bracing for jolt as US' Fed ready to hike rate

KUALA LUMPUR: The global market welcomes the new year in a less-than-celebratory mood as the US Federal Reserve (Fed) jolted investors with increasingly concrete signals to reverse its ultra-accommodative monetary policy stance.

OCBC Bank economist Wellian Wiranto said the Fed looked ready to hike rate because inflation had run longer and higher than the central bank had expected.

"Market is likely to be choppy as investors recalibrate to the departure from low rates environment, but ultimately, things should not be too bad because rates should still be at a relatively low level," Wellian said.

He said the overall hawkishness of the tone, once the details of the Federal Open Market Committee's (FOMC) December meeting were released, had struck the market quite hard.

Iin particular, the chatter about balance sheet reduction marks another milestone in monetary policy tightening by the Fed.

"Not only is the market having to countenance a more rapid end to quantitative easing, to be followed then by rate hikes that could come earlier and with more salvos than previously expected, the Fed appeared to be actively contemplating an outright withdrawal of liquidity, as well," he added.

Wellian said a tight job market and unabated inflation might require the Fed to raise interest rates sooner than expected and begin reducing its overall asset holdings as a second brake on the economy.

He said this time round, if the firm took the signals from the FOMC minutes at face value, there was a potential for all three tightening actions to take place within the year.

"Given that it is not so long ago that the Fed officials were busy downplaying the inflation risk – with the subtext that they would keep a loose monetary policy stance for a long time to come – it has been quite a sharp U-turn," he said.

Wellian said there was obviously more logic to withdrawing monetary policy accommodation to curb inflation, if the underlying inflation had been due mainly to demand uptick than supply shortfall.

He said from an initial rate hike coming as soon as March and up to a total of four hikes for the year as a whole, the Fed had also stoked market anxiety further by telegraphing an outright reduction of the balance sheet.

"I do wonder still, however, of the scenario that when they actually start pursuing all these tightening actions, inflationary pressure might have begun to ebb as well. Hence, in that case, it is not so much that they are behind the inflation curve, but the curve itself might start to turn," he said.

Meanwhile, Wellian said inflation was the overarching reason for the seemingly sudden turn, but a more nuanced dive into the underlying factors suggested that the Fed might just be turning hawkish right when the price pressure might have started to show signs of easing in the coming months.

The consensus expectation now is for the US to grow by 3.9 per cent this year, compared to 4.3 per cent just four months ago.

"If we then take the view that demand is the bigger driver of price pressure, that could also mean that a relatively softer demand outturn might be coming, which would in turn dampen the inflation risk, as well," he said.

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