BCA’s medium-term House View is that the Fed will not be able to tighten much in 2015, and may even have to postpone rate hikes into 2016. But, robust job creation will sustain Fed talk of a mid-2015 rate hike in the near term.
According to BCA’s medium-term House View, both economic growth and inflation will likely fall short of the FOMC’s expectations, causing the central bank to postpone rate hikes into early 2016. In part, this is because the biggest boost from the most cyclical parts of the economy (housing and consumer durables) is behind us. We also believe wages will be well behaved through 2015. At the same time, there are few signs of any positive momentum outside the U.S.
The world needs U.S. spending to be robust until demand elsewhere is on firmer footing. Until that happens, we fear that any attempt by the Fed to normalize interest rates in 2015 will be met by a surge in the dollar and possibly a rally at the long-end of the Treasury curve.
Nonetheless, in the near term, there is enough economic momentum at the moment to sustain upward pressure on the front end of the Treasury curve. Leading indicators suggest that job gains will remain solid over at least the next several months. Thus, FOMC officials may try to ‘talk’ market rates higher to close the gap between market expectations for the fed funds rate and the Fed’s outlook (i.e. the median dots). Also, there is a good chance that “considerable time” is removed next week.
Bottom Line: The FOMC is ignoring extremely low long-term inflation expectations in the face of a buoyant labor market. Robust job creation will sustain Fed talk of a mid-2015 rate hike in the near term.
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