While it is most unlikely that the Fed will draw any firm conclusions from the first-quarter data, which is subject to revision, say anything definitive about the outlook for rates or, indeed, announce any shift in monetary policy, everyone will be poring over the nuances of the language of the Fed’s statement to get a sense of its likely future course.
After three years of gradually raising rates – and signalling several more increases this year — the Fed abruptly changed course in January after the sharemarket plunged 20 per cent in the final three months of 2018. Other elements of the backdrop were the US government «shutdown,» the then-tense state of the trade relationship with China and the global economic slowdown.
The Fed also, as Donald Trump had urged, announced that its «quantitative tightening,» or the shrinking of its balance sheet, would end in September.
It was that unexpected shift from hawks to doves that reignited the bull market in equities and unwound what had been an inverse yield curve in bonds that has historically been a guide to looming recessions.
While Trump greeted Friday’s data by saying «we’re knocking it out of the park». The data, despite the headline number, isn’t quite that unequivocal.
There was a surge in net exports, with exports rising and imports falling but that may be simply a reversal of what happened late in 2018, when businesses were expecting a full-blown trade war with China and more and higher tariffs and rushed to get in ahead of those expected imposts.
With the foreshadowed increase in tariffs deferred and trade negotiations apparently progressing quite well, the pressure to build lower-tariff stocks abated.
Nevertheless, inventory investment was a major contributor to the growth and perhaps reflected a significant weakening in consumer spending that could see that investment tail off and inventories run down if that weakness persists. Both housing and non-residential investment have also slowed.
Inflation, already below the Fed’s target of 2 per cent, is running at an annualised rate of only 0.6 per cent on the central bank’s preferred measure of personal consumption expenditures.
While that might signal there is plenty of scope to maintain growth at or above the first quarter levels without risking an inflation break-out, it might also suggest something aberrational about the first-quarter numbers.
It does seem odd that the economy appears to be running hot, while unemployment is at historical lows, and both fiscal and monetary policies are arguably quite stimulatory, but inflation remains almost non-existent. It signals stubbornly weak demand despite the apparently strong growth.
The Fed will have to determine at some point this year whether the apparent rekindling of the Trump boom in the March quarter is built on solid foundations or is a blip in what had been a trend towards weaker growth last year as the initial boost from Trump’s tax cuts and spending waned.
Even the hint of rate rises this year would unnerve the US sharemarket, which has more than recovered all the ground it lost in the final months of 2018 to post record levels last week.
Trump, of course, is exerting pressure on the Fed to cut rates further, saying the economy would take off «like a rocket ship» if it did and striving to add like-minded appointees to the Fed’s board.
The Fed, and its peers elsewhere, are in of a bind of their own making.
Their post-crisis policies encouraged massive build-ups of debt at all levels of their economies and sparked financial asset booms/bubbles that have magnified economic inequality.
Maintaining historically low rates may not only ignite inflation in future but encourage more leverage and inequality.
The surge in debt levels has, however, greatly increased the sensitivity of businesses, households and governments to increased rates. A miscalculation by the Fed, the world’s key central bank, could trigger a new financial and economic crisis.
It is unlikely this week’s Open Market Committee meeting will provide another flashpoint like the one provided by the January meeting. The tone it sets could, however, shape the directions of markets, and economies, for much of this year and beyond.
Stephen is one of Australia’s most respected business journalists. He was most recently co-founder and associate editor of the Business Spectator website and an associate editor and senior columnist at The Australian.