Fed poised to cut, but only with much more soft data


Although the next cut is likely to be defended as an insurance against below-target inflation, that evidence is nowhere close to being compelling.
Taimur Baig20 Jun 2019
  • FOMC members are moving in the direction of cuts, but the data are far from justifying such a move
  • Growth may not be very strong, but by no means weak at this juncture in the cycle
  • Inflation may be soft, but only marginally so, and there are upside risks from oil and trade wars
  • We don’t think the data would change enough to warrant a July rate cut
  • Cuts in September and December more likely, in our view
Photo credit: AFP Photo


The Fed does enough to satisfy the markets for now

Stating that it would “act as appropriate to sustain the expansion,” the US Federal Reserve concluded its June meetings overnight, leaving the Fed Funds rate unchanged, but hinting strongly that cuts are on the way. These hints were clear from the removal of the word “patient” from its forward guidance, substitution of “solid rate” by “moderate rate” as the description of the pace of economic expansion, and the observation that inflation remains below 2%.

The dovish shift may be sufficient to please the markets, but it should be clear that the shift in stance was not seismic. The US central bank officials have demonstrated eagerness to ease financial market conditions from the beginning of this year. But at the same time, they have tried to assert their independence in the face of growing intervention from the White House. This was seen even last month when Chairman Powell argued that some of the slowing of inflation in recent months was likely due to transitory factors. Indeed, analysis done by the Dallas Fed show that core inflation has been on an uptrend since 2013, interspersed with temporary downshifts. In fact, a comparison of trimmed mean and core PCE (which excludes food and energy) shows that core PCE tends to deviate far more than the underlying rate of inflation. We are sure that Fed officials will keep this in mind as they consider forthcoming data. This means that although the next cut is likely to be defended as an insurance against below-target inflation, that evidence is nowhere close to being compelling.


Beyond inflation, the dataflow with respect to economic activity is hardly weak. Since the beginning of this month, releases such as retail trade, industrial production, and housing starts have been robust, pushing up Atlanta Fed’s 2Q GDP Nowcast to above 2%. To be sure, trade wars have undermined business sentiment, and there are genuine headwinds to the electronics cycle, but US energy and housing sector activities, along with labour market statistics suggest a fairly healthy growth environment.


In the event of a breakdown in trade negotiations between the US and China, there could be immediate jump on a range of consumer product prices in the US. Further tension in Iran could push up crude oil prices. Tight labour market could leave wages growing strongly even if margins are under pressure. These developments could push up inflation expectations and complicate the Fed’s job considerably in the coming months, in our view. An easing narrative is conventional wisdom, but may not work out the way the markets want



To read the full report, click here to Download the PDF.

Taimur Baig, Ph.D.

Chief Economist - G3 & Asia
taimurbaig@dbs.com
 

The information herein is published by DBS Bank Ltd and PT Bank DBS Indonesia (collectively, the “DBS Group”). It is based on information obtained from sources believed to be reliable, but the Group does not make any representation or warranty, express or implied, as to its accuracy, completeness, timeliness or correctness for any particular purpose. Opinions expressed are subject to change without notice. Any recommendation contained herein does not have regard to the specific investment objectives, financial situation & the particular needs of any specific addressee. The information herein is published for the information of addressees only & is not to be taken in substitution for the exercise of judgement by addressees, who should obtain separate legal or financial advice. The Group, or any of its related companies or any individuals connected with the group accepts no liability for any direct, special, indirect, consequential, incidental damages or any other loss or damages of any kind arising from any use of the information herein (including any error, omission or misstatement herein, negligent or otherwise) or further communication thereof, even if the Group or any other person has been advised of the possibility thereof. The information herein is not to be construed as an offer or a solicitation of an offer to buy or sell any securities, futures, options or other financial instruments or to provide any investment advice or services. The Group & its associates, their directors, officers and/or employees may have positions or other interests in, & may effect transactions in securities mentioned herein & may also perform or seek to perform broking, investment banking & other banking or finan­cial services for these companies. The information herein is not intended for distribution to, or use by, any person or entity in any jurisdiction or country where such distribution or use would be contrary to law or regulation. Sources for all charts & tables are CEIC & Bloomberg unless otherwise specified.

DBS Bank Ltd., 12 Marina Blvd, Marina Bay Financial Center Tower 3, Singapore 018982. Tel: 65-6878-8888. Company Registration No. 196800306E.

PT Bank DBS Indonesia, DBS Bank Tower, 33rd floor, Ciputra World 1, Jalan Prof. Dr. Satrio Kav 3-5, Jakarta, 12940, Indonesia. Tel: 62-21-2988-4000. Company Registration No. 09.03.1.64.96422.