Color Me Skeptical about Discount Rate Hike Speculation

Speculation that the Federal Reserve is going to hike the discount rate today has weighed on the Treasury market and is helping to lift an already recovering US dollar in the foreign exchange market.

The speculation is likely to be for naught and this may leave the markets vulnerable to a reversal. The last discount rate hike was largely tipped by Bernanke himself and explained. With the Fed having recognized again in the latest FOMC statement the weakness in bank credit, and not wanting to spark additional tightening of monetary conditions, some preparation would seem necessary.

The first discount rate hike was explained as part of the normalization process. Another one now, without the preparation, and while the Fed funds rate has been creeping up and dollar LIBOR has been steadily rising for more than two week, could be disruptive to the markets.

Bottom line: Because in the current environment and without preparation, a discount rate hike would be potentially destabilizing, we suspect the Fed will not do it.