News analysis

Questions raised over health of US economy

Despite rumblings that an increase in US interest rates is long overdue, United States Federal Reserve chair Janet Yellen played by the book and left its benchmark rate unchanged yesterday.

While most markets cheered the prospect of easy liquidity for longer, some economists are fretting over what this implies about the health of the world's largest economy, and what it means for export-dependent economies like Singapore.

That Dr Yellen played it safe made sense, even as she emphasised that the Fed decision to stand pat "did not reflect a lack of confidence in the US economy".

But the decision reflected the Fed's tacit acknowledgement that the US recovery has been slow - seven years after the financial crisis ended - and it isn't strong enough to stomach another rate hike.

While the record streak of monthly jobs gains paints a rosy economic picture, it belies the fact that many US workers have settled for part-time work or jobs with lower pay, and still more have dropped out of the workforce. And inflation is still below the Fed's 2 per cent target.

Not surprisingly, the US gross domestic product forecast was cut to 1.8 per cent this year due to weak growth in the first half, and the Fed rolled back the number of rate hikes next year from three to two. Its forecasts last December pointed to four increases this year, but now, the signal is for just one rate hike by the end of the year.

Meanwhile, most markets across Asia rallied yesterday on the Fed's decision and the prospect of only modest rises to come. "From a market standpoint, it is a shot in the arm when central banks don't raise rates, or keep them lower for longer. But that also means difficulties for businesses as it implies that demand is weak," said CIMB Private Bank economist Song Seng Wun.

For export-dependent economies like Singapore, it is worrying that the Fed appears divided on the strength of the US recovery. Euro zone growth has also not been impressive, and the Bank of Japan is still experimenting with new monetary easing initiatives to rescue its financial institutions and revive its economy.

"Globally, growth is still falling short of expectations," said Mr Song. In fact, further downgrades this year and next may be on the cards when the International Monetary Fund issues its world economic growth outlook next month. "That could imply another 10 to 12 months of lacklustre growth for Singapore," Mr Song added.

It may have been difficult for the Fed to bite the bullet and raise rates given the highly charged upcoming presidential election. Still, some economists cheer the delay, saying higher interest rates may spell more pain for the region, which is already suffering from the structural slowdown in China and subdued global growth.

"Singapore companies' earnings have been underperforming, and the economy is on the verge of recession. The labour market is showing signs of cracking. A Fed hike now would be a risk for us," said DBS economist Irvin Seah.

Ultimately, the Fed's inaction may have bought some time for the global economy.

But low interest rates are not sustainable, will continue to fuel asset bubbles and, worst, have not really worked in countries such as Japan and in Europe, where economic growth remains elusive.

A version of this article appeared in the print edition of The Straits Times on September 23, 2016, with the headline 'Questions raised over health of US economy'. Print Edition | Subscribe