Tomorrow’s FOMC meeting a non-event – expect weak Q4 US GDP but focus on the underlying trend
Only seven weeks after the FOMC in December decided to replace its Operation Twist with more QE, the Fed’s policy and forward guidance will most likely remain unchanged tomorrow after the first FOMC meeting in 2013.
Despite suggestions from the December FOMC minutes that the Fed’s asset purchases could stop well before the end of the year, it is obviously way too soon for the central bank to change course. The Fed is therefore likely to maintain in policy stance tomorrow, buying USD 40bn of agency mortgage-backed securities and USD 45bn of longer-term Treasuries per month.
We expect the Fed to stay the course with the current pace of buying through H1 2013. However, around mid-2013, we expect the central bank to signal a gradual slowdown of its asset purchases, paving the way for a complete halt to QE3 by the end of 2013.
Tomorrow’s key US data release is the Q4 GDP report. I expect real GDP growth to plunge from a 3.1% annual rate in Q3 to less than 1% in Q4. My forecast is 0.7%, while the consensus estimate is 1.1%.
While such an outcome might temporarily dampen some of the risk-on mood in financial markets, we think it is important to look at the average of Q3 and Q4 given the big swings in inventories and foreign trade. Thus, a gain in inventories and narrowing of the trade deficit added nearly 1% point to Q3 GDP growth and is set to subtract about the same in Q4. Some of the volatility in the past two quarters is due to the drought in the Midwest and Hurricane Sandy.
Looking instead of final sales of domestic purchases, which is GDP minus inventories and net exports and hence a better measure of the underlying trend, we expect that growth held steady at about 2% in Q4. That would actually be a rather positive performance against a background of Hurricane Sandy at the start of the quarter and the uncertainty surrounding the fiscal cliff negotiations at the end of the quarter.
Our current forecast for Q1 GDP growth is 1.5%, but if Congress finds an orderly deal on the remaining fiscal issues growth should accelerate during 2013 as pent-up demand is released. For more analysis, see US fiscal risks significantly diminished.