By David Bassanese

Stock market gyrations aside, investors need to get set for a likely rise in US official interest rates later this month. This may well cause further equity market volatility in the weeks ahead, and it should finally push the $A below US70c.

If all goes well, the $A’s new bout of weakness will likely mean the RBA won’t feel compelled to cut interest rates again anytime soon – even if today’s GDP results show the economy contracted in the June quarter.

To my mind, the RBA is now best left letting the $A do its work, particularly as it may need to save its ammunition to bolster the economy in 2016 - given the growing risk of weakness in both business investment and housing construction.

The Fed can’t credibly wait any longer. The US economy faces challenges to be sure, but most indicators are still pointing to an economy with solid underlying momentum. For example, check out the steep ongoing declines in both US weekly jobless claims and the unemployment rate in the chart below.




According to key industry indices, both the US manufacturing and non-manufacturing sectors are also doing well. The US manufacturing purchasing managers index (PMI) has eased of late, but still remains in the 50 to 55 range it usually finds itself in during typical economic expansions. The non-manufacturing PMI meanwhile is on a tear, pushing above 60!



US housing starts also remain firm. What’s more, housing starts are still below long-run average levels, suggesting there’s a lot more upside for the sector ahead.


 
At worst, America’s real exchange rate is only around long-run average levels. Given the US is the strongest major economy on the planet, the Fed can’t hope for a cheap exchange rate also – strong domestic US demand (and the economy’s relatively low exposure to international trade) suggests the economy can cope with further exchange rate strength.



As for concerns over what a Fed rate hike might do to Wall Street, to my mind removing this major lingering uncertainty hanging over the market is probably the best contribution the Fed can make. Delaying the inevitable will only leave markets on tenterhooks for another few months.

Indeed, in a subtle shift in rhetoric overnight, Federal Reserve Bank of Boston President Eric Rosengren – a non-voting member on the Fed’s policy making committee – argued the timing of the first Fed rate hike was less important for the economy than the trajectory of rate rises thereafter. This could point to a possible approach by the Fed at the September 16-17 meeting – softening the blow of the first rate rise by emphasising that further rate rises will be “gradual”.

As for the RBA, should the Fed raise rates, it will be taken as a positive signal that the world’s most important central bank still believes that the world’s most important economy still has enough momentum to overcome current global stock market and economic jitters.

The good news for Australia, moreover, is that the $A at least seems to be following its traditional script of weakening just when the economy most needs a boost of international competitiveness. Last week’s capital expenditure survey revealed Australia’s investment outlook for this financial year is still mired at recessionary levels. And I still fear that the boom in home building approvals has likely passed its peak. Australia’s growth engines are spluttering, as should be made apparent in today’s June quarter GDP result.