Further Reduction in Tail Risks; Baseline Outlook Little Changed

The December FOMC meeting produced some small surprises here and there, but the outcome of last week’s FOMC communications—the postmeeting statement, projections, and press conference—didn’t affect our views on monetary policy. The FOMC’s intent was to avoid saying anything that might be interpreted as suggesting less confidence in a message that was already well established. See our commentary: December 2019 FOMC Meeting: A Steady Hand into 2020. The New York Fed also updated its guidance on reserve-management and repo operations over the next month. It will maintain the pace of T-bill purchases and will increase the amount of repos that it will offer over year end (see NY Fed Repo Policy over Year End).

Far more significant than the FOMC meeting were developments with respect to three sources of uncertainty: Brexit, USMCA, and the U.S.-China trade dispute. The Conservative Party’s decisive victory in U.K. elections clears the way for Parliament to pass Brexit legislation, and the White House and House Democrats announced an agreement on USMCA. The Senate likely won’t consider the legislation until early 2020, and Canada and Mexico will have to approve the amended agreement as well. Still, this seems likely to pass the House as soon as this week, removing what seemed to be the largest remaining stumbling block to a completed deal.

Finally, the U.S. and China announced an agreement on a phase one trade deal. What is clear is that the U.S. agreed not to impose 15% tariffs on roughly $160 billion in Chinese goods that had been scheduled to go into effect December 15, and China scrapped its planned retaliatory tariffs. The U.S. will also reduce the tariff rate on $120 billion in Chinese goods from 15% to 7.5%. As with previous announcements, nothing has been signed yet and there is uncertainty about what has actually been agreed, particularly with respect to the most contentious issues related to changes to China’s economic policies. In this case, it’s not clear what has been agreed with respect to increased U.S. exports to China as well as concessions from China on its economic policies (e.g. market access for U.S. firms and intellectual property protections).

Policymaker Remarks

Following the December FOMC meeting and Powell’s press conference, the blackout period for communications by FOMC participants ended. Clarida (12/13) also backed the message that monetary policy is in a good place. Reacting to soft retail sales data, he reiterated his confidence in the outlook for consumer spending: “We really do not [see signs of a pullback]. In fact, I’ve said, and I believe, that the U.S. consumer’s never been in better shape in my professional career.” He noted that the full impact of earlier policy easing emerges with a lag. He expressed some cautious optimism about a trade deal between the U.S. and China, saying, “any resolution of uncertainty, assuming it’s a good deal,” is “a good thing” for the economy. However, it is “too soon” to say what the latest developments in U.S.-China trade relations means for the U.S. economy. Previous recession fears were “overblown” in his view. On balance sheet plans, Clarida noted that the Fed’s purchases of Treasury bills are not QE, but rather liquidity provisioning. He said it remained a high priority for the Fed to maintain market stability over year end.

Williams (12/13) said: “With the adjustments we’ve already made, lowering interest rates, we’ve got the economy on a very strong footing, sustainable footing, for good growth” in 2020. He also characterized the current unemployment rate (3.5%) as “a sustainable place for us to be.” While Williams saw some of the risks that had motivated the FOMC to cut rates three times in 2019 as having diminished, he emphasized that there is no urgency to reverse those cuts: “we are not planning to raise interest rates for a long time.”

Additionally, the topic of Federal Reserve policy was mentioned by at least one U.S. presidential candidate. Senator Elizabeth Warren of the Democratic Party said in a speech last week that “We will appoint Federal Reserve Board members who believe in full employment, who recognize that inflation fears have been overblown for years, and who are willing to let wages grow.” In early 2018, she opposed the nomination of Powell for Fed Chair.

Nowcasts (2019:Q4)

SourceCurrentOne Week AgoTwo Weeks Ago
Atlanta Fed GDPNow2.0%2.0%1.3%
New York Fed Staff Nowcast0.7%0.6%0.8%
CNBC/Moody’s Survey1.8%1.8%1.8%

Recent Data

The retail sales report for November was a disappointment. Sales in the retail control group—which includes only those categories of retail sales that are direct inputs into the PCE data—advanced only a tenth in November and over recent months have grown notably slower than the rapid pace seen earlier in the year. With the labor market and consumer sentiment both looking healthy, however, we are inclined to look through the recent weakness and continue to expect consumer spending growth to remain an important driver of moderate real GDP growth in the quarters ahead.

Last week’s CPI and PPI reports for November suggest that another modest gain in core PCE prices is likely to be reported for November and that the 12-month change may edge down further, to 1.5%. The PPI data were particularly soft, with the core PPI declining two tenths in November, well below the consensus expectation of a two-tenth increase. Productivity was revised only slightly in the updated productivity and costs data released last week. But there were substantial downward revisions to hourly compensation growth over the last couple quarters. As a result, the four-quarter change in unit labor costs is now 2.2% in Q3, down from a previous figure of 3.1%.

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