As the Global Rebound Gains, Interest Rates Are Creeping Higher

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Inflation, global interest rates riseCorporate profits are soaring amid growing signs that a sharp economic rebound is gaining momentum. But as markets push for new recent highs, investors should keep a close eye on creeping interest rates as well.

Many on Wall Street who were bracing for famine just a year ago are instead now counting on having their cake and eating it, too. They see corporate profits booming to new highs -- and the rock-bottom interest rates and easy-money conditions brought on to combat the financial crisis persisting as well.

As a global recovery takes shape, though, some signs show that monetary conditions are already tightening worldwide and taking markets by surprise. And that could be a sign of things to come for the U.S., despite inflation remaining tame and interest rates staying low for now. When they hit, higher interest rates could offset some of the momentum that comes from soaring profits that equity investors are now betting on.

As the U.K. Goes, So Goes the U.S.?

Shut-down airports aren't the U.K.'s only problem these days because inflation in that beleaguered economy is climbing fast. Rising prices for housing and consumer goods have pushed inflation to 3.4% in March, up from 3% in February, according to statistics released Tuesday. That's far above the 2% rate the government is targeting. Speculation that the Bank of England will be forced to raise rates sooner than expected is leading the pound to rally.

The U.K. economy has major structural similarities to the U.S., and it suffered a financial crisis at least on par with what unfolded in America. Investors should therefore keep a close eye on developments there.

Countries that largely sidestepped calamities, though, are also now looking to raise interest rates much faster than they had previously anticipated, thanks to strong growth. Vigilant regulation in Canada led it to avoid major bank implosions, for example. But unexpectedly robust domestic growth is now setting the pace for monetary tightening.

Authorities said Tuesday that it was "appropriate to begin to lessen the degree of monetary stimulus" given the strengthening economy, and investors now expect rates hikes starting in June. The Canadian dollar rallied sharply as a result.

Overlooking the Obvious Now?

The Reserve Bank of India has raised interest rates again amid strong growth but also because of swelling inflationary pressures. Industrial production is expanding at a record pace, and food prices are spiking, leading the country to become the first major economy to raise rates two months in a row.

"With the recovery now firmly in place, we need to move in a calibrated manner in the direction of normalising our policy instruments," Reserve Bank of India Duvvuri Subbarao said in a statement.

Newly exuberant investors, though, may be overlooking the creeping tightening taking place around the world. At the beginning of the year, measures by Chinese authorities to curb a red-hot economy were enough to inject a dose of caution in the markets. But while the same concerns about China remain, investors now seem to be willing to look past their impact.

For now, investors seem to be focused on growing evidence that the global economy is rapidly mending. What they seem to be ignored, though, is that interest rates are also on the rise.
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