Wall St in for a hawkish Fed surprise – Goldman
Investors have grown “complacent” in their expectation the Federal Reserve will adopt a very dovish approach to raising rates this year, despite evidence the US economy is in better shape than when angst swept across financial markets during the first six weeks of the year.
That’s the view from Jan Hatzius, chief economist at Goldman Sachs, who reckons that Fed officials may signal as soon as their meeting next week a sustained appetite to raise interest rates this year.
Interest-rate futures are currently pricing in one rate rise this year, down sharply from expectations of two to three increases at the start of the year, according to a note from Mr Hatzius.
A combination of financial market volatility, along with gloomy economic data released at the start of the year, prompted several top Fed officials to offer a more cautious approach in speeches in the early part of the year.
Indeed, after its January meeting the central bank specifically said it is “closely monitoring global economic and financial developments and is assessing their implications for the labor market and inflation”.
But the picture has changed sharply in recent weeks, far more than markets are discounting, Mr Hatzius argued.
Slack in the labour market, for example, appears to be “limited,” with the economy on its way to reaching full employment by the second half of this year. That comes as job growth remains far above the level Goldman estimates as the pace needed to keep the unemployment rate from rising.
At the same time, inflation appears to be picking up at a quicker rate than the Fed expected, with the core PCE price index – the central bank’s favoured inflation gauge – hitting a year-on-year pace of 1.7 per cent in January, 0.1 per cent above the Fed’s forecast for year-end 2016, Mr Hatzius notes.
And after sharp falls through to the middle of February, US equities have rebounded, while corporate credit spreads have tightened and oil has rallied – all signs that strain in the financial markets may be waning.
The Fed’s commentary may “shift in a more hawkish direction” as early as next week’s meeting, Mr Hatzius argues, with its so-called “dot-plot” of forecasts pointing to three rate rises this year.