Known in more common language as the Fed, the United States Federal Reserve is a paragon of financial impact all throughout the world. It shapes not only the US economy but also those of the world markets, especially the developing nations like India. Therefore, this article first investigates the structure and operation of the Federal Reserve and then looks at how its policy decisions ripple across the international economy in order to grasp just how the Fed influences economies.
The US Federal Reserve is:
The Federal Reserve is the US central bank, having been founded in 1913. Three fundamental duties include controlling inflation, setting monetary policy, overseeing and policing banks, maintaining financial stability, and providing financial services to the public.
The primary objectives of Fed monetary policy are:
- Maintain price stability: Control inflation.
- Boost job: Encourage Employment
- Control long-term rates of interest by juggling inflation and development.
All decisions regarding interest rates and other monetary policy are made under oversight by the Federal Open Market Committee. From the rate at which customers borrow money to deciding world financial flows, these choices span the spectrum.
In what way does the US Federal Reserve influence world markets?
The reserve money of the globe is the US dollar. This suggests that big dollar reserves are being kept by several nations. Often settled in USD, international transactions in as essential goods as gold and oil are also rather important. U.S. monetary policy thus affects practically every part of the world.
Changes in Global Capital Flow and Interest Rates
Actually, one of the most well-known instruments the Fed uses is even the federal funds rate fluctuation, the rate banks lend to and borrow from one another overnight. Usually, a rise in U.S. interest rates enhances the U.S. dollar since international investors pour money into American assets to profit from better rates.
Such a capital flight tsunami can empty the monies obtained from developing nations. Seeking more gains, investors can now take money back to the United States. The impact is especially strong for nations whose growth and development depend on foreign investments, a characteristic of many developing nations.
Affect on India
Capital leaves Indian financial markets with every Fed rate rise in interest rates. This usually depreciates the Indian rupee more, which drives imports of goods such crude oil, which is priced in dollars, hence increasing inflationary pressures. For Indian enterprises with debt denominated in US dollars, US high interest rates also often increase borrowing costs.
Economic Growth and World Trade
Fed tightening of monetary policy would mean raising the interest rates, which would cause downward acceleration of American economic development. Because of their high borrowing prices, businesses as well as consumers would cut expenditure. Since the United States imports products and services mostly from other nations, this effect can influence the state of the global economy. Lower demand for American consumers may result in less exports to other countries, which would once more lower their economic development.
Effects on India
India, a major export-oriented economy in sectors like IT and textiles, has much to lose from this slow down. For example, most of the income the big Indian IT businesses get comes from American customers. Such sectors will suffer if this slow down affects the demand for Indian goods in the United States. Furthermore, the trade balance of India may be affected by global demand instability brought about by Fed actions in line with the aim of strengthening its manufacturing and export base.
Dollar strength and commodities prices
Like other goods worldwide, including gold and oil, commodities are valued in dollars, hence dollar value directly affects their prices. Since the Fed is tightening policies and consequently strengthening the dollar, commodities prices drop in dollar terms since international buyers find them to be more expensive. Commodity prices are probably going to climb when the dollar declines.
Affect on India:
Third in the world for oil imports is this nation. An increase in rupee terms for crude oil driven by a stronger U.S. currency will boost the nation’s import bill and help to generate inflation. Naturally, this increases the expenses for Indian companies and consumers; moreover, energy prices significantly influence the way inflation shows itself in this nation. The higher dollar also means gold, an Indian favourite investment, costs more.
Fed Policies recently adopted and their consequences for India
Since the outbreak of COVID-19, the US Fed has implemented rather forceful monetary policies to help US economy. It methodically carried out large asset purchases also known as quantitative easing (QE) and lowered the interest rate to almost zero percent. This resulted in a flood of money in world economies and promoted capital flow into underdeveloped nations such as India.
Afterglow of Liquidity
After FIIs poured money into India to seek greater returns during the post-pandemic era, Indian equities—which had peaked—are finally likely to start tapering off as easy money built under the weight of inflationary pressures disappears.
Tapering and Aftermath
Now starting to tap asset purchases, the Fed made hints about interest rate rise following inflation increase. Already, this has begun to affect monetary policy and lead capital outflows from India, therefore devaluating the rupee and raising volatility in Indian stocks. Rising American interest rates that might alarm international investors overseas and hence alter the flow of capital into India and other developing nations cause significant concern among others.
