The Federal Open Markets Committee (FOMC) is widely expected to keep monetary policy on hold at its July meeting. Nevertheless, the meeting is unlikely to be a non-event. The Committee will have seen US GDP data for the second quarter before the conclusion of the policy meeting on Wednesday; therefore, any policy decision – or announcement – will reflect this.
GDP TO COME IN WEAKER
US GDP QoQ Annualised
The tone of recent economic data coming out of the US has left much to be desired. Business inventories, net trade and personal spending have been measurably lower, HSBC’s John Zhu points out. “Sluggish inventory accumulation and weak net trade could each subtract 0.4 percentage points from Q2 GDP growth,” he says.
Zhu forecasts growth of 1.7% in personal consumption, 6.8% growth in fixed investment, but predicts that government spending will have declined by 1.3% – indeed, Bernanke has placed some of the blame for sluggish US growth on fiscal policy, which he says is stunting the recovery.
Paul Ashworth of Capital Economics also warns that this makes a sub-1% reading entirely possible, and that “should prevent the Fed from making any changes to monetary policy. At most, the accompanying statement might include some modest changes, perhaps to highlight the further improvement made in the labour market,” he notes.
Analysts expect US GDP to come in at 1% in Q2 on an annualised basis, down from 1.8% seen in Q1. The reading comes amid a slew of high-profile analysts cutting their outlooks for US growth. Among them, Goldman Sachs recently cut its Q2 forecast to 1% from 1.3%; and Barclays’ measure for predicting US GDP now points to growth of 0.5% in Q2, down from 0.6%.
GDP REVISIONS
The US Q2 GDP data will be accompanied by a comprehensive revision to all GDP data since 1929, as part of the Bureau of Economic Analysis’ five-yearly review, and the move will involve new definitions and statistical methodologies.
Analysts at Daiwa Capital Markets say there is more chance that GDP will be revised upwards than downwards, given that initial nonfarm payroll figures were revised higher earlier this year. In general, analysts think we could see US GDP output increased by more than 3%, indicating that economic growth picked up at a faster rate than first thought towards the end of 2012, and the beginning of 2013.
Looking at GDP data in the context of payroll data is paramount, Daiwa argues: “The GDP figures currently on the table seem out of sync with employment data. Nonfarm payrolls have grown at a respectable pace in recent months, but GDP growth has been lethargic. Upward revisions to GDP would bring these two key measures into closer alignment and send a consistent signal on the economy.”
Whether this has a major impact on policy is unclear. But the general consensus seems to be that GDP revisions will not alter the Fed’s course.TH
THE TAPERING QUESTION
The Fed has positioned itself to keep interest rates low until unemployment falls to 6.5% (the next nonfarm payroll data will be released on Friday 2 Aug 2013), as long as inflation doesn’t creep above 2.5%. Fed chairman Ben Bernanke has reiterated that these levels are thresholds, not triggers. The futures market suggests traders are betting that the first rate hike will come in 2015.
But the question of the Fed tapering its asset purchases is less clear-cut. A recent poll by Bloomberg found that half of the 54 economists it surveyed expect the Fed to start tapering asset purchases in September 2013, reducing monthly asset purchases from $85bn to $65bn per month; economists also expect asset purchases to end completely in Q2 2014. None believe that tapering is a probable outcome at July’s meeting.
During his recent speech at the National Bureau of Economic Research, Bernanke suggested that the FOMC was prepared to begin tapering as early as this year if incoming economic data warrants it. Bernanke, and other Fed members, have all sought to reassure markets that there is no “pre-set course” to reduce asset purchases; any tapering decision is contingent upon a sustained improvement in economic data.
But since his speech, economic data releases have not meaningfully changed the medium- and long-term snapshot of US economic health, casting doubt over the prospect of seeing Fed tapering in the next two months.
Jim Reid, an economist at Deutsche Bank, suggests keeping an eye on the nominal figures for US Q2 GDP data. “There’s a good chance this will dip to having a 2-handle, or possibly even a 1-handle. This comes after two quarters with a 3-handle – the weakest quarters since Q1 2010,” adding that “it [will] take a brave and confident Fed to start withdrawing stimulus with such low nominal activity and still high debts.”
POSSIBLE: FORMALISING FORWARD GUIDANCE
Wall Street Journal’s influential Fed voyeur Jon Hilsenrath believes that the FOMC is likely to discuss changes to the way it communicates “forward guidance”, possibly taking steps to formalise it.
This is to be welcomed. It has been argued that if communication is a policy tool, then any miscommunication – such as Bernanke’s speech at the end of June, which markets (apparently incorrectly) interpreted as a hawkish signal that the Fed was set to tighten monetary policy – are a failure of policy, diminishing the value of open-mouth policies.
The stakes are high in this monetary shoot-out, given that we are on the cusp of a change in the rates cycle, so it is prudent for the FOMC to evaluate how it can improve its guidance to avoid communications blunders in the future. These discussions may also help to restore some of the credibility that the Fed may have lost over the past few weeks.
There will be no post-meeting press conference from Bernanke after this month’s FOMC meeting (the next one comes in September). Therefore, it is likely that, if forward guidance is formalised, the details will be released in the post-meeting statement.
Hilsenrath reckons the FOMC may also discuss lowering the 6.5% unemployment rate threshold further, which would signal that the Fed will remain dovish for some time. But since there is a chance the FOMC will formalise its forward guidance, some analysts, like BNP Paribas’ Julia Coronada, opine that revising the threshold is a bullet that the Fed will want to save for later.
Thresholds for ending the near-zero interest rate policy
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