The Federal Reserve embarks on a new monetary phase

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January 8th, 2016

The first interest rate hike in the US since 2006. The Federal Reserve (Fed) finally made a move and raised its benchmark interest rate in which was the first hike in almost a decade. Although this tightening up of monetary policy had already been discounted by the markets, it is still a significant step forward towards full normalisation in the US. The country's economic conditions have justified tightening up monetary policy for some time, as the expansion can now be considered consolidated (in Q3 the economy grew by a reasonable 2.1% year-on-year), the labour market has posted a healthy job creation rate for several months and inflation looks like rising in the future. However the Fed delayed its decision because it believed that external financial uncertainty required a more prudent approach; at least this is how it justified keeping interest rates the same at its September and October meetings. But once the summer's episode of strong financial volatility diminished, thanks largely to more encouraging activity figures from China, India, Mexico and other emerging countries of note, the Fed raised its benchmark rate by 25 bps. In principle we can expect a gradual rise that will not lead to any sudden changes in global liquidity conditions (particularly if we consider that both the ECB and Bank of Japan are continuing their quantitative easing). Nonetheless, we will have to keep a close eye on the trend in financial flows, especially towards the fragile emerging economies (Turkey, Brazil and South Africa would form part of this group), which have already shown signs of being sensitive to episodes of financial uncertainty.

Japan and the euro area end 2015 at different rates. In both cases the quantitative easing carried out by their respective central banks has been justified by the notable gap between the inflation targets they had set and the current situation, still relatively close to deflation. Nonetheless, the trend in these two large economies is quite different. While Japan is hardly growing, the euro area is going through an expansion which, although not extraordinary, is certainly substantial and most importantly looks like becoming more sustainable. In macroeconomic terms one of the key differences between the Japanese economy and that of the single currency is the state of domestic demand and, in particular, private consumption. While consumption seems weak in Japan, there has clearly been an expansion in the consumption of European households since the end of 2013. Over a slightly longer timeframe, one important distinction concerns the reforms planned in both economies. In Japan different measures have been taken to boost demand (fiscal expansion has been used together with monetary expansion) but changes of a structural nature, repeatedly announced, have yet to be specified. In the euro area, although recent trends reflect the support provided for growth by various temporary factors (such as falling commodity prices, the euro's depreciation and the ECB's quantitative easing), growth has also been boosted by the positive results of the structural reforms being adopted by different members of the euro area.

Spain is growing thanks to the combination of temporary supports and structural adjustments. One of the economies that provide the best example of this dual dynamic is Spain. There are few doubts that Spain is benefitting considerably from the aforementioned temporary factors (oil, the euro and monetary expansion). This explains how it managed to maintain an appreciable rate of growth in Q4: according to our estimates, GDP growth will have reached 0.8% quarter-on-quarter, the same figure as in Q3, ending 2015 with an annual growth of 3.2%, the highest of the euro area's main economies. This situation will be repeated in 2016 and the Spanish economy will grow more than its benchmark partners in the euro area. But these temporary support factors, although significant, are not the only reason for the country's good economic performance as some important reforms implemented over the last few years are also making a decisive contribution to this expansion in growth. Bank reform is improving credit flows which, in turn, are helping a clear recovery in real estate and the financing of production activity in small and medium-sized firms. Labour reform is also a reason why job creation has ostensibly recovered since the economy left the recession, in turn supporting consumption. The new labour framework has also helped to establish a trend in wages that is more compatible with the very necessary recovery in external competitiveness. Public adjustments have helped to restore credibility internationally, significantly improving external financing conditions. The challenge for future economic policymakers will be to resist complacency and continue with the reforms that guarantee the economy can consolidate a stable, sustainable trend in growth.