How will the US interest rate hike affect you?

Blog | Outlook

This past week, the US Federal Reserve (the equivalent to our RBI) raised its headline interest rate from 0.5% to 0.75%.

It was the first rate hike in over a decade.

How does a rate hike by a country halfway across the world affect you, the common citizen of India who follows the local markets? A lot more than you think. In this article, I will try to break down the exact consequences of the rate hike and more importantly, how it affects a market participant.

The Trump Effect

Normally, an interest rate hike could be broken down analytically to understand how, and why, the domestic (US) and global economies would get affected. During the Obama years that's precisely what happened. When the Fed lowered rates, there was a certain level of comfort and certainty on how the US Dollar would react. The Fed chairman/chairwoman's comments have always been carefully dissected by analysts.  However, hardly have there been moments where the chairman/chairwoman stuns analysts by saying that future rate hikes/cuts cannot be forecasted due to the unpredictability of one individual.

In this case, that's President-Elect Donald Trump.

Trump has been an enigma in every definition of the word. It has now reached a point where it is virtually impossible to take anything he says at face value. That is, except for a few, key points. And those key points, mostly economic in nature, are what lend credence to a fascinating thought. Perhaps we can truly predict how India's economy will react to the interest rate hike.

The China Factor

Fromthe earliest days of his run for presidency, Trump made it crystal clear that he would deal with China in a much different manner than he would with other countries. In particular, he would ensure that the US gets its "fair value" in trade relations with China.

What does this mean, exactly?

It's important to note that while Trump has never backed down from the opportunity to threaten/bully an individual, corporation, or even an entire nation, rarely has he actually gone through with one. In other words, it's almost always all talk, no action. With regards to China, Trump has repeatedly argued that he will impose huge tariffs on imported Chinese goods. 18% of Chinese exports end up in the USA, while just 7% of exports from the USA end up in China. Why is this important? Because the US is incredibly wealthier and more powerful than China. If a "trade war" were to occur where both the US and China quarreled, what would happen? Naturally, trade between the two countries would slow down dramatically. The key driver is that unlike the USA, China's economy would be devastated. The US economy, on the other hand, would not suffer significantly. It would merely look for other labor-cheap, export-driven countries to manufacture the goods. Knock, knock : Make in India.

Will a trade war, therefore, likely occur? No. History has proven itself time and time again that when the US threatens the world with tariffs, countries come together and the US usually gets what it wants. That's what you get when you're the most powerful and wealthy country in the world. That being said, Trump is not unwilling to push the envelope with China. This should help the USA in getting "fair value" in its trade deals.

Are we in uncertain times?

This brings us back to the Fed. Sure, it was alarming to hear from Chairwoman Janet Yellen herself state that the economic outlook was "highly uncertain."  She refused to answer questions on Trump's economic policies. The uncertainty on whether or not Trump will follow through on his proposals was unsettling. Will he cut corporate taxes, increase spending, and decrease regulation? Nobody knows for sure, and this presents the Federal Reserve a situation with no clear direction. Therefore, the safe measure for the Fed was to signal that it would raise rates gradually, but steadily, throughout 2017. This, in turn, caused the US dollar to rise against all major currencies, including the Rupee.

But the Fed is also well aware of its position. The greenback is in a strong position, having risen against all foreign currencies. Trump has also put together a "business development" team consisting of American business icons like Tesla/Space X visionary Elon Musk, Uber's CEO Travis Kalanick, and our very own India-bred Pepsi-Co CEO Indra Nooyi. Trump is signalling to the world that he truly means business.

Great- so how does this affect me?

At this point, the Indian markets will probably not strongly factor in the Fed's decision. This is good. If there is any concrete takeaway from the Fed's decision, it is that China's economy will likely be affected negatively. China has already begun witnessing FII's pulling money out of the country. Trump has made strong comments against China with regards to trade deals between the US and China. This could signal a positive move for India's markets as trade relations between India and the US show signs of improvement.

Trump has always said the right things about India. He also seems to value American interests much more than global interests. In other words, concerns like countering terrorism are high on his priority list. Both India and the US, therefore, share that bond. Obama was careful with maneuvering around India-Pakistan issues and generally played a safe card with both countries. Trump, on the other hand, does not seem to mind making strong statements against countries' policies.

India's Time to Shine

This plays right into India's cards. Similar to how Israel has been able to forge strong ties with the US due to its geo-political issues and strong Jewish US community, India is in in a similar position. NRIs are highly respected in the USA and earn the most out of all ethnic groups in America. Therefore, expect Donald Trump to be very, very pro-India with his remarks and statements. Companies like TCS and Infosys have little to worry about. True, it might become more difficult for Indians to apply for jobs and get visas granted in the US. However, the USA outsourcing its jobs to India should actually increase under a Trump presidency. When it comes to the Rupee, it's naturally expected to decline against a surging dollar due to the Fed's indication of interest rate hikes. However, this only makes for a stronger case that manufacturing and other export-driven sectors will thrive.

The bottom line: after the demonetization effects go away and stocks are undervalued, expect a strong resurgence in the Indian capital markets in 2017. And when you book your profits, thank the US Federal Reserve for making its vague comments on an "uncertain" future under the presidency of Donald Trump. It is that very same uncertainty that will bring steadiness to India's stock markets once India sees Donald Trump for who he really is: a businessman turned politician who understands the value of keeping India as a strong ally for years to come.


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