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The US Federal Reserve risks triggering “panic and turmoil” in emerging markets if it opts to raise rates at its September meeting and should hold fire until the global economy is on a surer footing, the World Bank’s chief economist has warned.
Rising uncertainty over growth in China and its impact on the global economy meant a Fed decision to raise its policy rate next week, for the first time since 2006, would have negative consequences, Kaushik Basu told the Financial Times.
His warning highlights the mounting concern outside the US over the Fed’s potential “lift-off”. It follows similar advice from the International Monetary Fund where anxieties have also grown in recent weeks about the potential repercussions of a September rate rise.
That means that if the Fed’s policymakers were to decide next week to raise rates they would be doing so against the counsel of both of the institutions created at Bretton Woods as guardians of global economic stability.
Such a decision could yield a “shock” and a new crisis in emerging markets, Mr Basu told the FT, especially as it would come on the back of concerns over the health of the Chinese economy that have grown since Beijing’s move last month to devalue its currency.
He said that, even though it had been well-advertised by the Fed, any rise would lead to “fear capital” leaving emerging economies as well as to sharp swings in their currencies. The likely strengthening in the dollar would also hamper US growth, he said.
“I don’t think the Fed lift-off itself is going to create a major crisis but it will cause some immediate turbulence,” Mr Basu said. “It is the compounding effect of the last two weeks of bad news with that [China devaluation] . . . In the middle of this it is going to cause some panic and turmoil.
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“The world economy is looking so troubled that if the US goes in for a very quick move in the middle of this I feel it is going to affect countries quite badly,” he said.
After spending months priming investors for a rate rise this year, the Fed faces an intense debate at its September 16-17 policy meeting over when to raise interest rates and how to balance evidence of a resilient domestic economy against gyrations in global financial markets driven by fears of a China slowdown.
Mixed signals have recently been emerging from the central bank about the prospects of an increase this month. While the labour market is continuing to strengthen, officials are worried that inflation will be weighed down by the higher dollar and recent falls in commodity prices.
The Fed’s chair, Janet Yellen, has repeatedly signalled that she expects to raise rates this year for the first time since 2006. She has only three meetings of the Federal Open Market Committee left this year if that expectation is to be fulfilled.
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The impact of China’s slowing economy on the world was highlighted by trade numbers released on Tuesday that showed both exports and imports slowing in August versus the same month last year.
Mr Basu said the World Bank’s June forecast of 2.8 per cent growth for the global economy was now under threat from the slowdown in emerging economies such as China and Brazil as well as anaemic growth in industrialised economies bar the US.
“There is a concern in emerging economies all around in case China takes a hit,” Mr Basu said. “This is the problem right now in the world . . . Overall we are going to get into a slower global growth phase.
“All this put together and what has happened over the past two weeks with the Chinese markets leads one to believe the scenario is looking worse than it did even in June.”
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