Markets on lookout for hint of interest rate hike at critical Fed meeting

The US Federal Reserve will make an interest rate decision on Wednesday, with rates expected to be left unchanged.

The US Federal Reserve's Federal Open Market Committee will make an interest rate decision at a critical meeting on Wednesday. While rates are expected to be left unchanged, every word of the central bank's monetary policy statement will be parsed by market watchers for any hint of an impending June hike.

US interest rates have been close to zero since the financial crisis struck in 2008. Though inflation is still historically low and growth is slowing, improving jobs data in recent weeks has sparked speculation that the Fed may signal an earlier-than-expected rate rise this week by dropping its pledge to be “patient” in considering a hike.

Conflicting indicators have left economists and policymakers sharply divided over the best timing for a tightening of monetary policy. Some commentators worry that a healthier job sector could trigger inflation, and that a failure to move on rates could lead to the economy overheating.

Other side of the debate

Weighing in on the other side of the debate are economists such as Nobel Prize winner

Paul Krugman

who strongly believe that the Fed should hold its fire.

“Don’t yank away that punch bowl, don’t pull that rate-hike trigger, until you see the whites of inflation’s eyes,” Krugman said recently, warning that if the Fed moves too soon, the US could, in the worst-case scenario, end up sliding into a Japanese-style deflationary trap.

Krugman is not alone in his thinking. “The spectre is that of a Fed hiking rates into an economic slowdown, and a higher dollar and higher real rates taking further steam out of the economy. Who should cheer that?” said analysts at Reorient research group in a note.

The uncertainty surrounding the central bank's intentions is exacerbated by the fact that the Fed's chairwoman, Janet Yellen, has been playing her cards so close to her chest that market watchers and investors struggle to agree on whether she is dovish or hawkish. Yellen is acutely conscious that a careless or overly specific word by her at the post-interest-rate-decision press conference this week could spook Wall Street and cause stocks to fall sharply, so she may well try to keep her comments as vague as possible.