Macroscope | US Federal Reserve’s attempt to turn inflation tide leaves Asian economies exposed

Comparisons between circumstances today and the run-up to the Asian financial crisis of 1997 should not be overemphasised

However, a combination of aggressive Fed tightening, a potentially even stronger dollar and pronounced yen weakness could prove problematic for those carrying US dollar-denominated debt

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Traders working on the floor of the New York Stock Exchange watch news of the US Federal Reserve’s decision to raise interest rates on June 15. Photo: EPA-EFE

Published: 12:30pm, 21 Jun 2022

The US Federal Reserve is off the bench and back in the game – finally. Last week’s decision to raise US interest rates by 0.75 percentage points was a major step towards restoring the Fed’s credibility as an inflation fighter. This will have global ramifications, not least in Asia.

The Fed prepared the ground well for its biggest single rate hike since 1994. Until just days before the announcement on June 15, markets had anticipated a rise of 50 basis points, but after some deft communication from the US central bank, markets recalibrated towards the idea that a 0.75 percentage-point increase was coming.

But what’s also critical is that rate-setters now expect the benchmark Fed funds rate to be substantially higher at the end of 2022 than they had envisaged in March.

June’s projected median policy path now foresees the rate at 3.4 per cent at the end of the year, significantly higher than March’s 1.9 per cent prediction. That means there will be a succession of US interest rate rises this year, with the Fed meeting again on July 26-27.

At the same time, the Fed downgraded its expectation for US gross domestic product growth in 2022 to 1.7 per cent from March’s 2.8 per cent projection. The Fed is now prioritising driving down inflation and is prepared to tolerate a slower pace of GDP growth as a consequence.

In Hong Kong, with its linked exchange rate system, the Monetary Authority increased its base rate by 0.75 percentage points last Thursday. More hikes will follow as the Fed further tightens US monetary policy.