With the Fed telegraphing an imminent rate hike, one which together with the "tempered" Trump speech has once again unleashed the reflation trade, and sent the Dow Jones soaring above 21,000, it appears the Federal Reserve will be hiking in a quarter in which GDP comes in in the mid 1%-range.
The reason: while "soft data" - which is important to animal spirits if not actual economic output - continues to surge as shown most recently by today's Manufacturing ISM survey, the "hard data", that which actually matters to the economy, is still disappointing.
On Wednesday morning, this divergence was noticed by the Atlanta Fed, which after forecasting Q1 GDP as high as 3.4% one month ago, revised its forecast sharply lower and moments ago reported that its GDPNow model forecast for real GDP growth in the first quarter of 2017 is 1.8 percent on March 1, down from 2.5 percent on February 27. The forecast for first-quarter real personal consumption expenditures growth fell from 2.8 percent to 2.1 percent after this morning's personal income and outlays release from the U.S. Bureau of Economic Analysis.
According to the "beancount" breakdown of details, this is what the Atlanta Fed sees as of this moment:
PCE contribution est. at 1.44%
- Nonresidential equipment investment contribution est. at 0.50%
- Nonresidential intellectual property products Investment contribution est. at 0.21%
- Nonresidential structures investment contribution est. at 0.18%
- Residential investment contribution est. at 0.54%
- Government contribution est. at -0.10%
- Net exports contribution est. at -0.47%
- Change in inventory investment contribution est. at -0.52%
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What crushed the Atlanta Fed's recent exuberant optimism? Perhaps it was a similar cut to GDP forecasts unveiled earlier today by Goldman Sachs, which now likewise expects Q1 GDP of 1.8%, down from 2.1% previously. The reason: disappointing data in both consumer spending and residential investment, to wit:
Personal income rose 0.4% (mom) in January, slightly above consensus expectations for a 0.3% rise. Nominal wage and salary incomes increased by 0.4% (mom), but real disposable personal income fell -0.2%. Consumer spending increased by 0.2% in nominal terms – below expectations – and fell 0.3% adjusted for inflation. The personal saving rate edged up to 5.5% from 5.4% previously. The core PCE price index (excluding food and energy) increased 0.30% month-over-month and rose to 1.74% year-over-year, rounding down to +1.7%. This result was very slightly below our expectations, reflecting a 3bp miss on the mom change and yesterday’s small downward revision to core PCE inflation for Q4. Headline PCE inflation firmed but also a touch less than expected, rising 0.43% mom and 1.89% yoy.
Construction spending edged down by 1.0% (mom) in January, against consensus expectations for an increase (+0.6%). January construction spending showed an increase in private residential investment (+0.5%) that was offset by softer public residential (-15.1%) and nonresidential (-4.7%) spending and flat private nonresidential building. Total public spending is now 9% lower than a year ago, driven by declines in public spending on residential construction (-16.3%) and infrastructure-related categories, including power (-28.8%), sewage and waste (-27.3%), transportation (-11.7%) and highways (-10.1%).
Goldman's conclusion: "Following this morning's data we have lowered our tracking estimate for Q1 GDP growth by three tenths to +1.8%, primarily due to weaker-than-expected real consumer spending for January."
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JPMorgan was not far behind, and the bank similarly cut its 1Q GDP forecast to 1.5% from 2.0%, tied to “weak” January real consumer spending, which declined 0.3% in the month, economist Michael Feroli wrote in in note. He maintained his call for Fed’s next rate hike to come in May, with March meeting used to signal the move. “The market is clearly giving the Fed a free pass to hike two weeks from today. However, in doing so the Fed would be opening the door to possibly hiking as many as four times this year"; unlikely Yellen wants to go that route
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And then there was Bank of America, which first cut its 1.8% GDP estimate coming into today to 1.4% following the poor consumer spending data, then took another 0.1% off the number after the plunge in construction spending.
Real consumption contracted 0.3% mom in January, missing consensus expectations of -0.1% and our expectations of 0.1%. While retail sales were strong during the month, auto sales saw a large payback after reaching a cyclical high in December. Utilities consumption was also very weak amid above-average temperatures in the US. On balance, these data chopped 0.4pp from 1Q GDP tracking, bringing us down to 1.4%.
And then this:
Construction spending declined 1.0% mom in January, owing largely to a 5.0% plunge in public spending. Private spending was up 0.4% mom, as residential spending grew 0.5%. Meanwhile, private nonresidential spending was unchanged. The disappointing January data nudged 1Q GDP tracking 0.1pp lower, leaving us at 1.3%. Meanwhile, the revisions did not move the needle for 4Q, which remains at 1.9%. Table 1 provides a breakout for the composition of growth, with changes to tracking highlighted.
Assuming the two banks (and their other peers who similarly have slashed their GDP forecasts), and the regional Fed are right, and Q1 GDP prints around 1.5%, this will be worst quarter since Q1-Q2 2016, when rate hike odds for the "data dependent" Fed were effectively non-existent, making one wonder just what data is the Fed looking at this time around?