Global Daily – Fed preview: Looking beyond the soft data in Q1

by: Maritza Cabezas , Arjen van Dijkhuizen

US Macro: Fed preview FOMC tone to remain optimistic, despite the weaker data – We think there will be no changes in the policy rate during the May meeting. We continue to expect the next rate hike in June. After a string of weak data in the first quarter, including March’s weaker than expected jobs and inflation reports,  as well as the dip in first quarter GDP growth, we don’t expect the FOMC to deliver a hawkish statement. However, we expect the statement to suggest that the slowdown is only temporary. Indeed, the weak first quarter GDP growth was mainly a result of the cooling down in private consumption growth, after strong growth the previous quarters. At the same time, business investment grew strongly, while April’s business surveys released today remain solid. Beyond the weakness in consumption growth during the first quarter, we see a pattern of recurrent weakness in the data that feeds into first-quarter GDP growth. This appears to be partly attributable to methodological distortions in the seasonal adjustment process. As a result, we expect the statement to continue to mention that the longer-run outlook remains positive and that near-term risks to the outlook are balanced.

Meanwhile, the Employment Cost Index, the broadest measure of labour costs, for the three-month period ending in March increased 0.8%, up from 0.5%  the previous quarter. This is the biggest gain since 2007 and is consistent with a tighter labour market. This is a strong argument to maintain the momentum of the rate hike cycle. The Federal funds futures, currently implies that there is a 68% chance of the central bank lifting interest rates in June. Meanwhile, the communication in the statement that relates to the continuation of the size of the balance sheet will likely remain unchanged. Although the Committee discussed the balance sheet strategy in the previous meeting, we think it is premature to make any changes in the statement in this respect. (Maritza Cabezas)

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China Macro – NBS PMIs drop more than expected. Yesterday, China’s ‘official’ PMIs for April disappointed. The NBS manufacturing PMI dropped to 51.2 from 51.8 in March. Markets had expected only a marginal decline to 51.7. The output, new orders and export orders all came down, with the price indices falling sharply. The drop in NBS’s Manufacturing PMI for April followed Caixin’s equivalent in March (Caixin’s PMIs for April will be published tomorrow). Meanwhile, NBS’s non-manufacturing PMI dropped by more than a full point to 54 (the lowest reading in six months), although remaining clearly above the neutral 50 mark. The disappointing NBS PMIs come out just after the release of strong macro data for March. All in all, this lends support to our view that – although China’s economy has gained momentum in early 2017 on the back of previous stimulus and a pick-up in global trade – real GDP growth has likely peaked in Q1-2017 and will resume a gradual slowdown in the course of this year. This partly reflects that Beijing continues with a moderate, targeted tightening policy aimed to reduce financial leverage, contain shadow banking and reduce overall credit growth. See for more background our latest China Watch, Growth peaks in Q1 (Arjen van Dijkhuizen).