What were the key announcements in the US Fed statement and what does this mean for India?

The Fed statement by Jerome Powell on 26-January had some major hawkish undertones. Here is the gist of the Fed statement made on Wednesday late night.

a) Fed rates are very likely to rise in March, although the actual rate hike could vary between 25 bps and 50 bps. Fed chairperson, Jerome Powell, is confident in the ability of the US economy to absorb a series of rate hikes from here.

b) Fed is silent on the unwinding of the bond book of $9 trillion while confirming that fresh purchases will cease in March 2022. There was no time table for reducing the size of its overall balance sheet but Fed has indicated it could start after March this year.

c) The broad theme of the statement is that inflation at high levels and a substantially improved labour market had created the base for hiking Fed rates without worrying about growth; since the impact on growth momentum is likely to be negligible.

d) One can interpret the statement that there would be a series of rate hikes in the coming months and at a much faster pace than expected. Powell has hinted at enough room to raise interest rates without threatening labour market conditions.

e) Retail inflation at a 40-year of 7%, the highest since the Volcker era, left the Fed with no choice but hike rates. This is the longest time gap Fed waited to hike rates after such a sharp spike in inflation. Fed is not using the word transitory to describe inflation at all.

f) Fed has hinted at the 25-50 bps rate hike in March followed by a series of another 50 bps rate hike by June 2022. By Dec-22, the Fed expects rates in the US to get to about 1.75% and to 2.25% by June 2023, where it should stabilize at long term normal.

What exactly does this Fed statement mean for India?

The market reaction across Asia and India to the Fed statement is clear enough. There is a sense of panic and worry as the markets have tanked sharply, continuing the fall. The expectation is that global investors may shift to the safety of developed markets. That explains why post the Fed statement, US markets closed flat, Europe was sharply higher, but most EMs including India took a hit on the chin.

The Fed statement, leaves India with two challenges. Firstly, higher US rates will pressure RBI to also hike rates to avoid real-rate gap narrowing. Secondly, balance sheet contraction would mean that much of the passive and ETF flows into India could get badly impacted. This also shifts the focus to the Indian government and how it tweaks the Union Budget. The Budget is now expected to craft a distinct India-flavoured story by looking inward.