Why did the Fed maintain a status quo?

The federal funds rate is the interest rate at which commercial banks in the US lend money held with the Federal Reserve system to each other on an overnight basis. In order to bring high inflation under control, the Fed had been raising the funds rate from March last year up until July. The idea was that at higher interest rates people and companies will borrow and spend less. This would help bring down consumer demand and wage inflation, and that, in turn, will help control overall inflation. Of course, this takes time to have an impact, which is why the US central bank has pressed the pause button.

Is the Fed done raising the funds rate?

The Fed’s favoured measured of inflation is the core personal consumption expenditures index, which leaves out food and fuel items while calculating inflation. In September, the inflation as per this index stood at 3.7%. It is down considerably from a high of 5.6% in February 2022. Also, it has fallen rapidly from April 2023, when it was at 4.8%. Nonetheless, it is still some distance away from the Fed’s favoured level of 2%. As the Fed chairperson Jerome Powell put it: “The process of getting inflation sustainably down to two percent has a long way to go.” So, the Fed isn’t totally done with raising rates yet.

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What else can we interpret from this monetary policy?

Chairperson Powell said: “Now, more than 18 months into this, I think that the risks are getting more balanced.” The Fed started raising the rate in March last year after core inflation peaked at 5.6% in February. What Powell perhaps meant is that while the risk of high inflation was still there, higher rates were working and that the rates may not go much higher hereon.

How did the markets interpret this?

The markets took Powell’s point in a positive stride. In the US, the tech heavy Nasdaq shot up 1.6% on 1 November. The Dow Jones Industrial Average, US’s most popular stock index, rose 0.7%. More importantly, the yield on the 10-year US treasury bond fell 21 basis points to 4.72%. US treasury bonds are financial securities issued by the US government to fund its fiscal deficit. The yield on a bond at any point of time is the return investors can expect if they buy the bond at that point and hold on to it until maturity.

How does all this impact India?

High US bond yields lead to higher interest rates in the US. And if returns are high in the US, many foreign institutional investors (FIIs) deploy money there. This is why between end-August and 2 November, FIIs have net sold stocks worth $5 billion. If US bond yields and interest rates keep falling—as initial interpretations suggest—then FIIs will look for higher returns in India and other parts of the world. The BSE Sensex took this possibility on board, closing the day higher by 490 points or 0.8%.