The U.S. Federal Reserve has swung into policy normalization mode — a shift that is bound to have ripple effects worldwide.
Q: What is your assessment of the U.S. economy? Do you have any projections for growth or inflation?
A: I’d say the current economic situation in the U.S. is quite good. Growth looks to be coming in over the next couple of quarters in the 2%-plus range, rather than the 2%-minus range. We’re in the unusual position that the Federal Reserve is fretting that inflation is creeping down, not creeping up. I’m not very upset that inflation is 1.5% instead of 2%. It just doesn’t matter that much — a half a percentage point on the inflation rate.
To me, that is really swamped by the fact that we’ve got the unemployment rate down below 4.5%, with no signs of an inflationary breakout that stops that.
It looks like we might be able to push the unemployment rate even lower. Or maybe the right way is not to say “push it” — it’s doing it by itself.
Q: When will the Fed start normalizing its balance sheet? I think the market expects a decision at the September meeting. Do you agree?
A: I very much agree with that. The Fed started talking about balance sheet adjustment earlier than I thought they would. That caught me by surprise.
They will announce it at the September meeting and … they’ll announce a start date, which might be Oct. 1.
Investors ploughed more cash into emerging market funds in the week since the asset class’ stock benchmark touched its highest level since 2014.
Emerging market equity funds counted $2.2bn of inflows in the week to August 2, while EM bond funds recorded $1.9bn of fresh capital commitments, according to flows tracked by EPFR. The additions lift inflows since the year began to nearly $90bn for the two fund categories.
Enthusiasm for emerging markets has been bolstered by low interest rates across the globe and a renewed drop in the US dollar. The MSCI emerging market stock index has climbed more than 23 per cent this year.
“Economic growth is generally stable, narrowing current account balances — a sign of improving fiscal health — and emerging market currency volatility is low,” said Bill Merz, a strategist with US Bancorp Wealth Management. “While valuations remain elevated, the fundamentals appear somewhat compelling for investors with a higher risk tolerance.”
In the developed world, investors showed a continued preference for European stock funds over their US counterparts. European equity funds notched their fourth consecutive week of inflows, although additions decelerated from a week prior. US stock funds suffered their seventh straight week of redemptions, with outflows since mid-June topping $22bn.
India’s Nikkei Markit services PMI contracted to 45.9 (the lowest reading since September 2013). Combined with the manufacturing PMI reported on Tuesday, the July composite PMI fell to 46.0, the lowest reading since March 2009.
Among subcomponents, the new business index fell the most to 45.2 (from 53.3 in June), reflecting disruptions caused by the GST.
As the press release from Markit Economics mentioned, “Most of the contraction was attributed to the implementation of the goods & services tax and the confusion it caused”.
The employment index for services fell to 48.9 (from 51.8 in June).
That said, the index for business expectations rose to a 11-month high to 62.3, suggesting optimism from services providers about the future once they have more clarity about the new tax system.
The output price index rose to 54.6 (from 51.0 in June), while the input price index moderated to 51.7.
Overall, PMI data for July suggest a significant drag on new business activity post the GST implementation. That said, optimism expressed by both manufacturers and services providers about the future is encouraging and suggest a potential improvement in activity once businesses adjust to the new tax system.
Tracking estimate from the Atlanta Fed forecasts a pickup
If Trump actually got a quarter of 4% growth, the tweetstorm would be epic.
The initial forecast for Q3 from the Atlanta Fed is +4.0% in the popular GDPNow model.
“The GDPNow model projects inventory investment will contribute 1.13 percentage points to real GDP growth in the third quarter; inventory investment subtracted 0.02 percentage points from growth in the second quarter.”
For Q2, the final Atlanta Fed estimate was 2.8% compared to the 2.6% reading. At the start of the quarter they had forecast 4.3%. Trump went on to tout how great growth was:
“We have a GDP, on Friday – it got very little mention, although I guess in the business areas it did. But it got, I think, very little mention. 2.6 is a number that nobody thought they’d see for a long period of time. Remember, I was saying we will hit three at some point in the not-too-distant future, and everybody smiled and they laughed and they thought we’d be at one. And 2.6 is an unbelievable number, announced on Friday.”
The Q3 consensus is still fuzzy, but it’s around 2.3%.