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EconomyUS Fed rate hike impact on India explained

US Fed rate hike impact on India explained

While the US Fed rate hikes have made news in India for quite some time now, the term is gobbledygook for the layman in the country. But they do understand that foreign investors have been fleeing emerging markets like India and transferring their money to the US. They want to know what is causing this panic.

Why should the US Fed rate hike concern an average Indian?

The layman caring about US Fed hiking rates must know economies are more connected and interdependent today than before. So, as the US dollar is the world’s reserve currency when the central bank of the largest economy of the world makes a change, it impacts the world.

But this hike is no business as usual. The finance departments of the US incorporated a quantitative easing programme, which resumed when the Covid pandemic eased. This involved printing $ 5 trillion. This is about 80% of all the dollars that were in supply before the process started. The surplus supply of dollars made commodities lose value.

What measures can be expected from the US in the near future?

The quantitative easing is largely to blame for the problem, but the geopolitical factor of the Russia-Ukraine war and the sanctions that followed led to inflation around the world, including the US, which is now in a recession.

The US Fed began raising the lending rate to arrest inflation. Fed chair Jerome Powell said it was possible that his office would effect another 50-75 basis point rate hike in September, but experts read between his lines and suggested he is now going to go slow, which is to say there would be no rate hikes after this year and the US Fed will cut the rate probably in 2024. But by then, So far, Powell might go beyond the already announced 225 basis point rate hikes and increase it by 75-100 basis points more.

Further, the US Fed may trim the balance sheet, which would be quantitative tightening, which we will explain later.

Is the US in a recession?

Yes. The end of the was expected to revitalise the markets by the end of last year. By then, the US took along several developed economies gradually into a recession.

The US is now technically in a recession, show the second-quarter numbers where the US contracted by 0.9% after a 1.6% fall in the first three months of 2022.

It may still not be a recession if things improve in the subsequent quarters, but the standard definition of a recession is seeing two consecutive quarters of decline in the GDP.

How is the US Fed fighting recession?

Working on a goal of controlling inflation and bringing it down to 2% from 9.1% in June, which was a 40-year-old record, the US Fed hiked the lending rate, which caused the economic in the country. To meet this objective, the US Fed has decided not to worry about the recession as of now.

Now, if the US recession continues, there will be a hard landing. A hard landing refers to a considerable economic or downturn after a period of rapid growth. The term "hard landing" comes from aviation, where it refers to the kind of high-speed landing that, while not an actual crash, is a source of stress as well as potential damage and injury. The metaphor is used for high-flying economies that run into a sudden, sharp check on their growth, such as a monetary policy intervention meant to curb inflation. Economies that experience a hard landing often slip into a stagnant period or even recession.

On the contrary, a soft landing refers to an economic without the country going into a recession. It will not matter whether the US Fed makes a flexible definition of a recession, as the fall in the of the country is a reality now and Powell will continue to try to tame inflation, stunting growth further.

What is quantitative tightening?

Quantitative tightening is a policy of withdrawing liquidity from the markets by letting bonds and securities mature rather than issuing new ones to replace them and maintaining liquidity in the markets.

The US Fed has bought bonds against which investors were given money on credit. In return, investors would pay interest, But the interest rates are extremely low, drawn from the cheap available in the market.

Under quantitative tightening, the US Fed will sell the bonds again in the market and receive money in exchange, thereby reducing the available liquidity in the market.

Quantitative tightening has begun in the US, as the Fed is increasingly sucking out the amount of liquidity slowly and steadily. Every month, the US Fed may pull out $ 95 billion from the markets, totalling nearly $ 2.5 trillion in the next few years. This would be roughly equivalent to 50 basis points worth of rate hikes.

How does quantitative tightening by the US Fed affect India?

It will depend on several factors and variables like the manner in which the US Fed goes about its quantitative tightening policy, how the markets react and absorb these bonds and how potent quantitative tightening would turn out to be as a monetary policy tool.

The impact of quantitative tightening is still not fully understood. Despite the best attempts by economists and central bankers around the world, its real-world impact depends on a lot of dynamic and uncontrollable factors.

However, if the US Fed manages to engineer a soft landing with the combination of quantitative tightening and rate hikes, the possibility for the rest of the world to also have a soft landing increases, going by the rationale of globalisation explained early in this post. This is what Indians must hope for. Otherwise, as noted economist Swaminathan Iyer says, a hard landing for the world would mean a hard landing for India as well.

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Surajit Dasgupta
Surajit Dasguptahttp://''
Co-founder and Editor-in-Chief of Sirf News Surajit Dasgupta has been a science correspondent in The Statesman, senior editor in The Pioneer, special correspondent in Money Life, the first national affairs editor of Swarajya, executive editor of Hindusthan Samachar and desk head of MyNation

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