Why the Fed Won’t Raise Interest Rates

Weak US economic data is preventing the Fed from raising interest rates

Over Memorial Day weekend, I attempted to teach my soon-to-be two-year-old daughter to swim.

Like most kids, she started out with a vest to help keep her afloat. She was doing great, jumping in and chasing her older brother around the pool. After a while, she got tired of wearing the vest, so I took it off.

Seconds later, she dove back into the water … without her vest — she still couldn’t swim.

The vest got her used to swimming, and built her confidence up about being in water, but it didn’t change the fact she still can’t swim on her own.

This moment with my daughter oddly reminded me of the Federal Reserve’s relationship with the markets — the Fed is the vest and the markets are my daughter…

The Fed is on the cusp of raising interest rates from historical lows. This is essentially removing the vest keeping the markets afloat.

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While Janet Yellen has clamored that markets are overvalued as she cautiously moves closer to a rate hike, one of two things is about to happen — either the Fed postpones its rate hike or the markets crash.

I believe it is going to be the former, and the answer to why the Fed won’t raise rates lies in our economic growth — it shows the economy isn’t strong enough to sustain higher rates right now.

Lackluster Economic Growth

The reality is that the U.S. economy just isn’t as strong as many expected. Our first quarter clocked a paltry 0.2% growth rate, which is expected to be revised to a negative growth rate this Friday. And, according to the Bloomberg U.S. Economic Surprise Index, the U.S. has been the worst in the world when it comes to missing expectations.

So it shouldn’t be a surprise that recent economic indicators such as retail sales, wholesale sales and factory orders have all been weaker than expected. In fact, just this morning, the market was hit with a 0.5% decline in April durable-goods orders.

The Atlanta Fed, with its GDPNow calculation, is forecasting only 0.7% growth in the second quarter, compared to expectations of more than 2% growth. Combine a 0.7% second-quarter growth with an expected revision to negative growth in the first quarter, and the Federal Reserve has a long way to go to see its base case of 2.3% GDP growth this year.

Take Steps Now to Diversify

The U.S. economy simply can’t sustain its modest growth of about 3% to 4% on average. The new normal will likely settle sub-2%. This recent weakness in economic indicators is a sign our economy is reverting to a lower growth rate, which ultimately, will be the key for why the Fed won’t raise rates — or at least why they will keep rates pinned historically low.

Janet Yellen knows this, which is why the Fed won’t raise rates: instead, I believe the Fed will continue to push back the date of its first rate hike. And when that day comes, I believe it will be miniscule and maybe just a one-off hike, depending on how the market and economy react.

When my daughter took her first leap without the vest into our pool, I was hoping she would pop right up and continue to swim — but she sank. She’s a water rat and doesn’t mind being under for a second or two, so she was all smiles when I pulled her back up to the surface.

I think Fed Chair Janet Yellen is simply seeing how the economy will react to jumping into the pool without a life vest — and it isn’t pretty.

This will lead to a dollar collapse and volatile stock markets. One key step you can take now to begin to diversify some of your portfolio out of the U.S. dollar is to invest in gold. Investing in gold continues to be an insurance policy against volatility in the market and weakness in the dollar, preserving your wealth.

Another avenue is to invest in European and Asian stocks. They will rise in value as the dollar begins its inevitable course reversal.

For now, the Fed will stay the course.

Regards,
Chad Shoop Sovereign Investor
Chad Shoop
Editor, Pure Income