There has been much discussion in the media about whether the U.S. Federal Reserve will raise the federal funds rate in September from its current near-zero level. Many analysts are afraid that a rate hike will intensify the market’s volatility. While a rate hike could lead to more volatility in the short term, in the long run, I think that a rate hike would help get the bull market back on track.
If the Fed believes that the economic recovery is still on, raising the fed funds rate would assure investors that, despite a slowdown in China and some other emerging markets, there is business as usual in the U.S. In the long run, this would help stabilize markets.
As long as the fed funds rate stays near zero, it reinforces a financial crisis mentality. It refuels the idea that we are just one step away from another recession. Thus, investors panic at every hint of a slowdown in the U.S. or elsewhere, which further spreads the crisis sentiment. The ongoing crisis mentality could be making businesses reluctant to hire as well.
If the Fed really thinks there is substantial risk of slipping into recession, then I suppose the low inflation rate is a justification to delay an interest rate hike. But if the Fed believes the recovery will continue, they really need to start raising rates now.