Interest Rates: Six Reasons They Are Going to Go Up

Interest RatesThe Federal Reserve provides projections on U.S. gross domestic product (GDP) four times each year; in March, June, September, and December.

Just a few days ago, the Fed released its June projections. The Fed expects the U.S. economy to grow between 1.8% and two percent this year. (Source: Federal Reserve, last accessed June 17, 2015.) The mainstream will take this number and run with it. But what you won’t hear much about is what happened to the Fed’s past economic projections.

Please look at the table below. It shows the Federal Reserve’s GDP estimates over the past few quarters.

Federal Reserve’s GDP Growth Projections

Sep-13 3.00% to 3.50%
Dec-13 3.00% to 3.40%
Mar-14 3.00% to 3.20%
Jun-14 3.00% to 3.20%
Sep-14 2.60% to 3.00%
Dec-14 2.60% to 3.00%
Mar-15 2.30% to 2.70%
Jun-15 1.80% to 2.00%

(Source: Federal Reserve, last accessed June 17, 2015.)

Looking at this chart, you can see one common denominator. Since September of 2013, the Fed’s GDP projections for 2015 have been coming down. The low side of its GDP projection has declined from three percent to 1.8%. The upper side of its GDP projection has fallen from 3.5% to two percent.

If this doesn’t smell of pessimism, I don’t know what does.

The Federal Reserve will provide its projections for 2015’s GDP two more times this year; in September and December. Don’t be surprised to see their growth projections decline even further.

Interest Rates Headed Higher

According to the Federal Open Market Committee (FOMC), participants (Fed governors) expect interest rates to go higher this year…from a current Federal Funds Rate of 0.25% to a rate between 0.375% and 0.875% by the end of 2015.

By 2016, the Federal Funds Rate is expected to increase to around or above 1.375%, after which it is to rise to or above 2.375% by 2017. Yes, you’ve done the math right. If the bellwether Federal Funds Rate increases to 2.375% by 2017, it will be 850% higher than today’s rate!

Six Reasons Why the Fed Will Raise Interest Rates in 2015

The Federal Reserve’s projections have been increasingly pessimistic towards the U.S. economy. But at the same time, it is saying interest rates will rise. If the Fed expects economic growth to decline, why raise interest rates? After all, higher interest rates are supposed to be a tool for central banks to cool down an overheated economy…and the U.S. economy is anything but heated according to the Fed’s projections.

Here are my six reasons why the Fed will raise rates this year:

  1. The Fed has been telling the market since last year that it would increase interest rates. Even with the economy slowing, it has to save face and do so.
  2. After printing so many trillions of new dollars during its various QE programs, the Fed wants to show us it was the right thing to do and that it worked.
  3. To support the value of the U.S. dollar in the wake of its declining status as the reserve currency of the world, the Fed wants to raise interest rates to show the supremacy of the greenback.
  4. While other central banks are either printing money or lowering their interest rates to stimulate their economies, the Fed wants to show the world the U.S. has recovered and is on the road to economic prosperity again.
  5. If the job numbers for June, July, and August are strong, and the “official” employment rate falls below five percent, the Fed will need to raise rates to alleviate wage growth pressure.
  6. Finally, the Fed is concerned all the trillions of dollars it has printed will cause price inflation. Hence, raising rates will pour some cold water on inflation before it has a chance to get going.

Of course, the Fed could be raising interest rates due to a combination of the above factors.

What the crash in the bond market has been telling us is crystal clear: interest rates are moving higher.

Also Read: IMF Says Fed Should Delay Interest Rate Hike Until 2016