Fed has 'missed opportunity to raise rates earlier this year'

The Federal Reserve missed its opportunity to hike interest rates earlier this year and could do damage to the economy if it was to pull the trigger now.

This is according to financial manager and author Bill Gross, who has been urging the US central bank to lift borrowing costs for a long time. He believes that doing so now would lead to "self-inflicted" instability.

He made his comments in his September Investment Outlook report, where he also said that his favoured approach of a neutral policy rate - where the rate is neither stimulative or contractionary- being closer to a nominal two per cent can't be used now "without spooking markets further and creating self-inflicted financial instability".

Mr Gross, who manages the $1.5 billion Janus Global Unconstrained Bond Fund, claims that the Fed is dead set on hiking the federal funds rate at its policy meeting in October to prove to the naysayers that the US economy is ready to start the journey to normalisation.  

He advised that the language used at next month's meeting to avoid raising hopes or dashing them, and believes that a "one and done" approach - whereby the Fed hikes rates once and not again - is looking like the route the central bank will take. 

"The Fed is beginning to recognize that six years of zero bound interest rates have negative influences on the real economy - it destroys historical business models essential to capitalism such as pension funds, insurance companies, and the willingness to save money itself," Mr Gross wrote.

If less people put money away for a rainy day then more problems would plague the US economy, such as a drop in investments and long-term productivity, the financial manager added.

Mr Gross said: "The global economy's finance-based spine is so out of whack that it is in need of a major readjustment. In this case, even the best of chiropractors could not even attempt it. Nor would a one-off fed fund increase straighten it out."

The report goes on to suggest that major global policy shifts should highlight government spending rather than emphasising austerity. It also claims that currency devaluations - such as the one recently seen in China - do nothing but allow a little respite from the wider problem of too much supply versus too little demand. 

Mr Gross explained that more needs to be done to boost demand, adding "China must move more quickly to a consumer-based economy but the developed world must play its part by abandoning its destructive emphasis on fiscal austerity, and begin to replace its rapidly decaying infrastructure that has been delayed for decades."

He feels that the turbulence seen in stock markets in August, such as that seen in Asia after the yuan was devalued - is a clear indicator that the global economy as a whole may not be completely healthy. 

The report suggests that a low interest rate environment has been responsible for creating major distortions and now the world is paying for it. 

Mr Gross is very critical of current fiscal and monetary policies being used around the world, believing them to be constructive or compatible with real growth, and he doesn't believe this will change.  

The finance manager explained that if that was really the case, equity market capital gains and future returns would be limited or even stuck on a downward slide. Instead, he claims that cash is king, with one to two-year bonds his idea of appropriate risk/reward investment. 

High-quality global bond markets offer a minimal reward relative to durational risk, he explained, adding that private equity and hedge related returns will be stopped for prospering if global growth continues to be weak.