Will the United States Federal Reserve raise interest rates soon?

For years now, the ups and downs of global financial markets have hinged on this question, and what investors thought the US central bank would do.

Now, the answer looks like it could be "yes".

In fact, the Fed might raise rates as soon as this week, as it is set to have its next policy meeting on Thursday.

After all, recent economic indicators all show that the US economy is solidly on the mend.

Late last month, the US Commerce Department made a sharp upward revision of its estimate for second-quarter economic growth. It now predicts a robust annual pace of 3.7 per cent, up from an already-solid initial estimate of 2.3 per cent.

Job data, which the Fed has repeatedly said will be a key factor in its decision over whether to hike interest rates, has also been strong. The US Labour Department said last Friday that unemployment fell to 5.1 per cent last month, the lowest rate in over seven years.

It then reported on Wednesday a record 5.8 million US job openings in July. Employers added nearly three million workers over the last 12 months.

Consumption is also on the rise. The latest figures show auto sales rose to 17.7 million last month, its fastest pace in a decade.

Meanwhile, economists point to plenty of pent-up activity in the housing sector, with housing starts - the number of houses already being built - at their highest level since 2007.

Also, the severity of the housing bust during the financial crisis meant activity in this sector stayed at depressed levels, they note, and even though housing starts are now at an eight-year high, there is still plenty of room for further growth in the numbers.

To recap, the Fed has kept interest rates at historic lows near zero since December 2008, amid the recession that came in the wake of the massive global financial crisis. The move made it cheaper for individuals and companies to borrow money, which the Fed hoped would help to spur consumption and investment, and eventually lift the economy.

To anyone looking at the latest statistics on the US economy, it would certainly look like the Fed's goal has been achieved.

This has fuelled rampant speculation that the Fed could raise interest rates and reintroduce more "normal" monetary policies as soon as this week.

Furthermore, if interest rates stay low for too long, it could cause the economy to overheat.

That is, low rates could encourage retail investors and businesses to make risky investments which could then wreak financial havoc down the line. Prolonged zero rates would also boost consumption and prices to such a level that it could cause inflation to overshoot the 2 per cent target that the Fed has set itself.

And if that happens, people may lose confidence in the Fed's ability to manage price increases, which could lead to an upward spiral in inflation rates.

However, many critics note that conditions in the US economy are far from creating such a scenario, and they are actually urging the Fed not to raise interest rates just yet.

THE CASE AGAINST A RATE HIKE

For starters, exporters in the US are worried that a stronger US dollar will hurt their recovering businesses. Traditionally, a rise in US interest rates will be followed by a strengthening of the US dollar, which would make goods from the US more expensive than those from other countries.

This, some argue, could cause the US economic recovery to reverse course. Also, despite the healthy rise in job growth and low unemployment, wages have not risen in tandem and neither has inflation, which means the US economy is far from overheating.

This was noted by the International Monetary Fund (IMF) early this month, when it urged both the Fed and the Bank of England not to raise their interest rates just yet.

Looking at the big picture, the IMF also noted that global growth "remains moderate, reflecting a further slowdown in emerging economies and a weak recovery in advanced economies".

In an environment of rising financial market volatility, declining commodity prices, weaker capital inflows and depreciating emerging market currencies, the outlook has become gloomier, especially for emerging markets and developing economies, it added.

To raise global growth and mitigate risks, advanced economies, such as the US, should maintain "supportive" policies, the IMF said.

The increased volatility in global financial markets over the past several weeks is another reason critics say the Fed should stand still for the moment.

Markets have been on a roller-coaster ride since early last month, when China's central bank suddenly announced that it would devalue the yuan against the US dollar. It was a signal to investors that China's economy was slowing down so sharply that Beijing had to take the drastic step of weakening the yuan so as to make Chinese exports cheaper and more attractive. It eventually triggered a major stock market rout that has since been dubbed "Black Monday". Commodity prices also plunged, with oil prices hitting six-year lows.

Although the markets have calmed down since then, fears over China's slowdown have remained. Exports dropped 5.5 per cent last month from a year earlier, its second straight month of decline, while industrial production is at a three-year low.

Amid all this drama, the Fed remained ambiguous on whether it would raise interest rates or not.

While some of its top officials said that the turmoil in financial markets could delay a rate hike, others said that they expected the market to calm down soon and hinted that policy tightening could still happen this month.

WILL THEY OR WON'T THEY?

The irony, of course, is that markets have eased up on their worries over China and are now focusing their angst on the Fed.

In fact, the uncertainty surrounding whether the Fed will raise rates, and when, has caused so much turbulence that several central bankers around the world are saying, enough already - just get it over with.

Indonesia's Finance Minister, Mr Bambang Brodjonegoro, told The Wall Street Journal in an interview on Aug 26: "What's really causing the turmoil is uncertainty. It's better for the US to make a decision, because what makes the financial markets volatile is the uncertainty." Peruvian central bank governor Julio Velarde agreed, saying during a recent visit to Seoul that most emerging markets want the Fed to raise rates "as soon as possible".

"The uncertainty about when the Fed hike will happen is causing more damage than the Fed hike itself will," he said.

Mr Raghuram Rajan, the governor of India's central bank, told The Wall Street Journal: "It's preferable to have a move early on and an advertised, slow move up rather than the Fed be forced to tighten more significantly down the line."

Whether or not the Fed acts to normalise monetary policy this week, one thing that everyone can agree on is that any rise in interest rates will be done gradually.

The Fed may raise rates by a tiny amount next week, and slightly further at its meetings next month and in December.

THE IMPACT OF A FED HIKE

Investors around the world have been bracing themselves for a Fed rate hike over the past year, by parking their money in US assets, as a rise in US interest rates would cause the US dollar to strengthen.

This has caused major capital outflows from emerging-market assets, and emerging-market currencies have already begun depreciating as a result.

Some analysts say this is a good thing - it means investors have already "priced in" a rate hike into emerging-market assets, so that when the Fed actually raises rates, there will not be a sudden and sharp decline in regional markets.

ABN Amro chief economist Han de Jong said in a recent report: "The upcoming tightening cycle is undoubtedly the best-flagged ever. It cannot surprise anyone."

What is more important is how rapidly the Fed will continue raising rates, he said.

"There are several reasons to expect the Fed to be cautious and gradual. First, the data on economic activity and inflation does not suggest the Fed should tighten aggressively.

"Second, several members of the policymaking committee believe that monetary tightening is premature. And third, the Fed does not want to cause disruptions in financial markets or in the real economy."

However others disagree.

World Bank chief economist Kaushik Basu, for example, echoed the IMF's call for the Fed to stay its hand, telling the Financial Times that a rate hike now would cause "panic and turmoil" in the emerging markets.

Although the rate hike has been well advertised by the Fed, Mr Basu said a rise would lead to "fear capital" leaving emerging economies as well as sharp swings in their currencies.

"I don't think the Fed lift-off itself is going to create a major crisis but it will cause some immediate turbulence," Mr Basu said.

Investors are used to the drill by now - they will simply have to wait and see.

And if the Fed does nothing this month, they will simply have to wait some more.