Another rate cut, by -25 bps, is a done deal this week, although the market has trimmed its expectations to 66% from 92% a week ago. This would take Fed funds rate’s target range to 1.75-2%. The focus of the meeting is the number of members in support of further easing. The media dot plot is, therefore, the key for this meeting. The market has priced in over 50% chance of a third cut by December, down from 75% in the prior week and 80% in the prior month.
Economic Projections
US GDP growth for 2Q19 was revised lower to 2%, from +2.1% in the first estimate. This also marks a slowdown from +3.1% in the first quarter. Downward revisions were seen in government spending, exports, inventories and housing. Yet, these were partly offset by an upward revision to consumption. In the job market, nonfarm payrolls added +130K in August, missing consensus of a +158K increase. Growth in private payrolls was only +96K, compared with consensus of +150K and July’s +131K. The unemployment rate stayed at decades’ low of 3.7%, although the participation rate edged higher, by +0.2 percentage point, to 63.2%. Average earnings expanded +3.2% y/y, down from July’s +3.3% but beat consensus of +3.1%. Underlying inflation has improved. Headline CPI moderated slightly to +1.7% y/y in August, from +1.8% a month ago. However, core CPI improved to +2.4%, highest since 2008. This is compared with +2.2% in July and market expectations of +2.3%. While the August reading for PCE, Fed’s preferred inflation gauge, was not released. The July reading came in softer than expected. Both headline and core measures have stayed below Fed’s +2% target.
The biggest development since the July meeting is US-China trade war. Negotiations in October will likely not reduce the conflict. Domestic growth has eased since the June and July meeting, while core inflation was a tad firmer. In its latest economic projections, we expect little change on this year’s economic outlook. However, it is likely that downward revision will be seen on GDP growth for 2020. Inflation forecast for next year can be revised slightly higher, while the unemployment rate should stay largely unchanged.
Forward Guidance
We expect the policy stance will stay largely the same as July’s. At the July meeting, the Fed justified the rate cut as a means to support “sustained expansion of economic activity, strong labor market conditions, and inflation near the Committee’s symmetric 2% objective”. It added that uncertainty remained and the members would continue to monitor incoming information for the economic outlook and “act as appropriate”.
Median Dot Plot
The previous median dot plot (June) projected no change in the policy rate this year, though there were 8 members favored rate cut. It projected only one rate cut in 2020, followed by a rate hike in 2021. Eventually, the Fed lowered the policy rate by -25 bps in July with another cut likely this week. It is important to see how many members have projected a third rate cut this year. The strong signal of further easing, after this month’s cut, would be strong enough if there is a substantial minority opting for the move.
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