Forex Institutional Research: FOMC Preview Citi & Goldman
Goldman Sachs FOMC Preview: Key quotes
- “After the weak May employment report, investors have effectively ruled out a rate hike by the FOMC next week, and most see little chance of action in July as well. The key question for the policy outlook is whether the soft jobs report was an aberration, or whether it signals a meaningful deterioration in the labor market.
- Payroll growth was indeed quite soft, and to an extent that cannot be explained by normal month-to-month volatility. The slowing was also party validated by weakness in other indicators, including the payroll diffusion index and the employment measure in the services ISM.
- However, it is much too soon to sound the alarms. First, adjusted for the Verizon strike, payroll employment growth was not much below our estimate of its trend or “breakeven” level. Second, downward revisions to prior months reflected seasonal adjustment changes, so we would caution against extrapolating a trend. Third, other labor market indicators, such as jobless claims, have held up better.We see a slowing, not a slump, in the latest labor market data.
- The natural reaction of policymakers will be to await more information while keeping options open. We expect the Fed to stand pat next week, but to keep a rate hike in the near future on the table. We expect small changes to the economic outlook, and for the median funds rate estimate in the Summary of Economic Projections (SEP) to remain unchanged for this year; the pace of rate increases beyond this year will probably come down.
- After reviewing the latest labor market data and Fed communication in more detail, we are tweaking our subjective probabilities of a rate increase over the next few meetings. We now see a 35% chance of a rate hike in July (down from 40%) and a 35% chance of an increase in September (up from 30%). At this stage we are not changing our subjective odds of a rate hike by September. With the unemployment rate at 4.7%, wage growth clearly picking up, and financial conditions much easier, there is likely a limit to how long the Fed’s pause can last.”
Citi FOMC Preview: Key quotes
“FOMC risk still weighted to dovish
The market is not expecting much from FOMC next week and they will probably deliver. As of Friday AM a hike by July has no more than 15-20% probability, by September maybe 35-40% and by December about 65%. The question is whether the risk is bigger that July will become more live or that December will become more dead.
Notwithstanding the low probabilities of hikes already priced in we go into this meeting thinking they will have a hard time convincing investors that September is really live. Increasingly investors see optimistic comments on future hikes as the Fed trying to avoid a market panic if it adjusts its forecasts downward, so they see ‘we expect growth and labor markets to pick up soon’ comments as for the record. By contrast comments such as Fed Chair Yellen’s that normalizing rates is not an independent goal of monetary policy open the door for downward shifts in dots and equilibrium rates.
What we see priced in:
1) a reversal of comments on growth and labor markets – with growth having picked up and labor markets having slowed; expectation that labor softness is temporary
2) more concern on inflation expectations slipping – the April 20th meeting was essentially the high point for inflation expectations in financial markets and some surveys have dropped aswell
3) global activity and financial markets have stabilized, maybe in Statement, certainly in press conference
4) 2016 dotes: 1-2 zero; 3-4 one hike, 4-5 three (or more) hikes, everyone else at 2
5) 2017: more spread out but much lower; 9-10 at 1.125% or 1.375%. 2-3 at 0.625-0.875, 4-6 at 1.625 or higher
6) median long-term policy rate expectations down by 0.25%, but some may be as low as 2.5%.
7) inflation forecasts pretty much unchanged; GDP forecasts – low end reduced by at least 0.25% in 2016 and 2017, midpoint may possible come down as well
Possible dovish surprises:
1) 8-10 one hike or less in 2016
2) 2017 center of dot gravity at 0.87%-1.125%
3) discussion on possibility that equilibrium exchange rates are not much higher than current level
4) big downward shift in long term fed funds expectation, i.e. 4-5 in 2.0-2.5% range.
5) ‘we are completely agnostic if we raise rates three months or next year – all data dependent’
6) concern on feedback of US hikes on other economies and move back into US
Possible hawkish surprises:
1) ‘in coming months’ is back – although note that this is so vague that market may unwind a move relatively quickly
2) ‘in next meeting or two’ – this is mega hawkish signal but unclear why they would send such a signal
3) ‘in next meeting or two if progress in labor markets resume’ – market would debate what number would get July back in play
4) heavy discounting of June NFP significance, but no hint on timing of hikes – hawkish, but less hawkish than 2) or 3)
5) rest of the world is better able to deal with a hike
6) shift in dots very modest
We think that if there is a surprise it is more likely to be on the dovish side, although we think the Fed is overreacting to the NFP data. To address our first question – we think it is more likely that Sep and Dec are put into question than July and Sep are put into serious play.”
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