FOMC Resumes Rate Hikes, Real Interest Rates Revert to More Normal Curve
MyEListings' markets and economics editor and creates content about global macro events and their impact on US commercial real estate.
The Federal Open Market Committee (FOMC) meeting today held significant implications for the economy and financial markets. After pausing its rate hikes in June, the Federal Reserve resumed them today, initiating a 0.25% rate hike to the federal funds rate.
The federal funds rate, which is the rate at which banks lend to each other overnight, is a critical determinant of market interest rates. Here, we delve into the significance of today's hike and its impact on global real interest rates, focusing on its implications for the commercial real estate sector.
The Expected Rate Hike
Following the FOMC's decision to pause rate hikes in June, the markets have been eagerly awaiting the central bank's next move. Market experts anticipated a 0.25% rate hike today, bringing the federal funds rate to a target range of 5.25% to 5.5%.
This decision comes as recent disinflationary pressures and economic recovery continue to shape the central bank's policies.
Market Interest Rates and the Cost of Capital
The federal funds rate, though not fixed, is manipulated to remain in a band of rates through open market transactions. This rate serves as the benchmark for market interest rates, influencing borrowing and lending costs for banks and other financial institutions.
As lenders experience the fed funds rate as their cost of capital, they must charge higher interest rates on loans to earn a spread on lending.
Global Real Interest Rates and the Normal Curve
Recent developments have seen global real interest rates experience a shift toward a normal curve, with longer-term rates surpassing short-term rates. This trend has been fueled by global inflation rates reacting to higher short-term rates and subsequently receding.
Nominal interest rates minus inflation determine real interest rates, making them crucial in assessing the true cost of borrowing and lending.
FOMC Impact on Commercial Real Estate
The increase in interest rates by the FOMC holds particular importance for the commercial real estate sector. Higher ensuing rates could further hinder, for example, the ability of workouts on derelict office properties to be carried out on mutually agreeable terms.
Consequently, this might lead to an increase in property defaults, leaving lenders in possession of properties they cannot improve themselves.
Partnering Up or Selling at Lower Prices
In light of these challenges, lenders might be compelled to collaborate with other entities or sell properties at lower prices to mitigate losses.
Some properties may struggle to attract viable offers, leading to a reduction in their market value. This scenario could have ripple effects on the broader commercial real estate market, as the FOMC's tools are ill-suited to its solution.
The Macroeconomic Perspective
Albert Edwards, a renowned market analyst, has observed that central banks globally appear to be nearly done with their interest rate adjustment cycles. As inflation rates respond to higher short-term rates and begin to recede sharply, central banks may hold off on further hikes.
Such macroeconomic shifts can have significant implications for the overall financial landscape, even if the Fed is forced to hastily reverse course.
The Long and Short
The Federal Reserve's decision to resume rate hikes in today's FOMC meeting is of some importance to the financial markets and the economy at large. A 0.25% increase in the federal funds rate could have far-reaching consequences for global real interest rates.
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