The prospect of a U.S. rate hike, possibly as soon as tomorrow, shouldn’t have major direct impacts in developed economies such as Canada, but could create downside risks for emerging markets, according to a report published Wednesday by Moody’s Investors Service, Inc.
Rate hikes by the U.S. Federal Reserve Board could occur as soon as tomorrow, says the report from the New York City-based credit rating agency. If not tomorrow, a hike is “very likely” in the coming months, the report adds.
“Such a move would reinforce our view that the U.S. economy is on track for above trend growth, likely to reach a cyclical peak in 2016,” the report says.
“The direct macroeconomic effect on the U.S. economy should be very small, as the fed funds rate will likely go up by only a quarter of a point,” the report adds. Noting, Moody’s expects further interest rate hikes to be very gradual, with rates rising by 150-200 basis points over the next two years.
With higher U.S. growth supporting improved growth expectations in most advanced economies, Moody’s does not expect rate hikes to have a significant impact on interest rates or the currencies of other developed countries, the report says.
“Easier monetary policy in Canada, New Zealand, and Australia, and, perhaps more importantly, the fall in commodity prices for their exports and slowing growth in China, have already contributed to significant drops in their currencies,” the report says. “They are likely to remain under pressure, but by itself a small rise in U.S. rates should not cause major moves.’
However, Moody’s does expect that rising U.S. rates, “will contribute to downside risks for some emerging market sovereigns, particularly those that are more reliant on foreign investors to meet their operating and capital financing needs,” the report says.
“When a Fed move occurs, though anticipated, there remains a low risk of a disorderly reaction should an initial move by the Fed cause investors to abruptly adjust their expectations for yields,” the report says, adding Moody’s expects slow, or negative, economic growth in many emerging markets.
“Although lower global commodity prices and possible volatility in capital flows will pose challenges to some emerging markets, a combination of reserve buffers and policy vigilance has the capacity to limit the negative sovereign credit impact,” the report concludes. “The most affected large emerging markets — and those most at risk going forward — have tended to be those such as Brazil, Russia, Turkey and to some extent South Africa in which severe domestic challenges have contributed to exchange rate and financial market instability, and where policy room to buffer external shocks and protect growth is less robust.”