The Week Ending Friday April 20th 2018
A few interesting trends in the markets as 10 year bond yields climbed to three year highs. Are they being driven up by rising short term yields powered by rising Fed target rates or in expectation of higher nominal growth? The yield curve is flattening which would indicate a possible slowdown, except that the curve is flattening at higher levels, a good sign. Five-year breakeven (i.e. expected) inflation rates also continued to move above 2%. This move above 2% may not mean a lot as expectations stayed above 2% for many years despite the very sluggish growth during 2011-13.
10 year yields unlikely to climb higher unless any NY Fed chief as dovish as proposed Fed Vice Chair
Our new for 2019Q2 NGDP Forecast is not too promising, with growth expected to fall back to around 4% after a seemingly promising break nicely above 4%. Perhaps this weakening is no surprise given new Fed Chair Powell’s inability to give a clear explanation as to why he is agreeing to rate rises. The nomination of Richard Clarida as Vice Chair to replace Fischer is much more promising– especially if he gets confirmed by Congress. He seems very open to higher nominal growth. However, the other equally important role of NY Fed chief (and thus Vice Chair of the FOMC) may still switch the opposite way, from dove to hawk, if Dudley is replaced by John Williams. And there are still several other vacancies waiting for nominations on the Fed Board.
The USD rose a little during the week but is still very much at the lower end of its range. Equities were flat, seeing some noise from the earnings season but little overall trend change in the combined consensus level for earnings. The potential third world war, perhaps never really serious, over Syria has gone away and the trade war with China is also off the boil.
Energy prices always able to unsettle markets
Oil prices spiked up on some OPEC action and unexpectedly low stocks in the US but seem unlikely to climb much higher. Ironically, the spike in US yields may partly have been due to expectations that any energy-induced spike in inflation would in turn spook the Fed into further tightening – such are the markets’ thought processes. Markets don’t rate highly the Fed’s ability to “see through” energy-related (upward-only) inflation volatility.
Data was positive over the week. Industrial and Manufacturing Production indexes for March maintained the healthy growth trend seen building since early 2017. On a level basis, however, the indexes are still only just making up for the negative growth during the end of the Obama Presidency. Still, it is better than not making up the losses, and is what has been seen in the manufacturing PMI and regional Fed activity surveys for many months. Equally, retail sales for March also showed a continuing positive trend after some bad weather-related weakness.
Next week’s first estimate for 2018Q1 GDP could be quite positive, both in real and nominal terms despite consensus and the Atlanta Fed having gone for dull RGDP growth of just 2%. The NY Fed nowcast is still up at 3% RGDP growth QoQ for both 2018Q1 and Q2. A year ago we were forecasting a significant pick up to 4% NGDP growth after many quarters in the doldrums of 3%-3.5%.