Global Daily – Fed preview: What will happen next?

by: Maritza Cabezas , Arjen van Dijkhuizen

Fed preview: What will happen next? – We think that the Fed is once again ready to raise rates tomorrow during the March FOMC meeting. We expect the fed funds target range to increase by 25 bp. This should be the start of a more prolonged, yet gradual pace of rate hikes.  In contrast to the past two years, when the Fed paused its rate hike cycle. This was mainly the result of unexpected economic developments, including an extended decline in oil prices and a sizeable appreciation of the US dollar which led the Fed to proceed with caution. FOMC members are more optimistic now about the US economy and have signalled that the economy is on the right track to meet the Fed’s inflation and employment goals.

170314-Global-Daily.pdf (48 KB)

We expect the more hawkish tone of Fed policymakers to materialize both in the Summary of Economic Projections, as well as the dot plot, which provides the forecasts for the target range for the fed funds rate. The 2017 forecasts will likely show a slightly higher growth and inflation outlook, while the unemployment forecasts will remain unchanged. As for monetary policy, we now expect the median participant to forecast four rate hikes, given the slightly higher inflation forecasts and the more hawkish tone from some FOMC members. We think that a gradual pace of rate hikes remains appropriate in the coming two years, while complementary monetary policy, including reducing the size of the Fed’s balance sheet will likely remain unchanged in this meeting. Some FOMC members have alluded to the downsizing of the balance sheet as something to consider in the near-term. We think that the FOMC will first continue to raise rates, before addressing alternative tools. Chair Yellen has mentioned in her latest speech that “the process of scaling back accommodation will not be as slow as it was in the last couple of years”, but she also has said that there is “no evidence that the Federal Reserve has fallen behind the curve”. During the last FOMC meeting in December, the Fed forecasted three rate hikes. Our view is that after the rate hike in March, the Fed will hike two more times, in June and September, with the odds of a fourth rate hike increasing. We would like to have more clarity about the fiscal measures, before we add a fourth rate hike to our base scenario. (Maritza Cabezas)

China Macro – Industrial production and investment accelerate, retail sales slow. On Tuesday, China’s industrial production and fixed investment growth came in better than expected, confirming that the economy entered 2017 on a strong footing. Industrial production accelerated to 6.3% yoy in January/February (December 2016: 6.0%), mainly driven by stronger infrastructure investment. Higher infrastructure investment, together with stronger property investment, also pushed up fixed investment to 8.9% yoy in January/February (December 2016: 8.1%), the strongest number since June 2016. A pickup in global growth and trade is also supporting China’s growth momentum (also see our Global Trade Watch, Potential impact from protectionism) published today. Meanwhile, retail sales slowed to 9.5% yoy in  January/February (December 2016: 10.4%), driven down by weaker car sales as the car purchase tax was partially normalised. Bloomberg’s monthly GDP estimate came in at 7.0% yoy for February, only slightly below December’s number. All in all, we believe China’s growth momentum is holding up well. We expect GDP growth to marginally slow in the course of this year, to an average of 6.5% (compared to 6.7% in 2016), as Beijing is leaning against the wind with a policy of carefully, targeted tightening. Our growth forecast is in line with the 2017 target published earlier this month at the annual National People’s Congress. (Arjen van Dijkhuizen)