Weekly Focus: FOMC and 2Q15 GDP

July’s FOMC Meeting: Just One More Step Toward a September Rate Hike

July’s FOMC meeting (Wednesday) is not expected to bring an unwanted shock to markets but may allude to a potential rate hike in September. So, why September? First of all, September’s meeting coincides with a planned press conference and release of updated economic projections, both of which will be helpful in better explaining the reasoning behind the rate hike at that time. Secondly, markets are better prepared to react if the announcement does come in September. Most importantly, it has become clear that the risks to delaying policy normalization are increasing. Yellen noted in her latest semi-annual monetary policy report to Congress that “the economy cannot only tolerate but needs higher rates,” favoring a sooner rate hike in order to allow for a more gradual pace of increases thereafter, rather than delaying and potentially being forced into making drastic increases in a shorter period of time. She has been in a similar situation before – back in 1994, when Yellen was a member of the Federal Reserve Board of Governors, the Fed increased rates for the first time in five years, a surprise to the markets resulting in a 150 basis point spike in Treasury yields. This is no time to repeat past mistakes, and the Fed is certainly not out to surprise markets on purpose. 

BEA Revisions Likely to Take Center Stage in 2Q15 GDP Release

The BEA is set to release the advance 2Q15 GDP estimate (Thursday), and our in-house models suggest that the economy expanded at a 2.0-2.5% pace throughout the quarter. Based on what we have seen so far in 2Q, business inventories and consumption appear to be the strongest drivers of growth. Residential investment also seems to have picked up for the quarter, coming from an extremely weak start to the year. However, the rebound in nonresidential investment is lagging, with nondefense capital goods orders (excluding aircraft) in decline throughout April and May. Ultimately, the biggest factor to watch will be the BEA’s annual benchmark revisions, which could change both historical and projected GDP rates. These annual revisions have, on average, adjusted quarterly GDP by approximately 1.5% (in absolute terms). On top of that, the BEA is likely to release other revisions based on seasonal adjustments, so we may see a shift in the notoriously weak first quarter growth rates that could impact annual growth, especially our forecast for 2015.