GDP Solid, Fed Cuts, Bank of Canada Holds [October 2019]

Dan North
Dan North Chief Economist North America

Review of the Fed Report

As expected the Federal Reserve cut interest rates on October 30, 2019 from a range of 1.75% - 2.0% down to 1.5% - 1.75%. The Fed cited “… the implications of global developments for the economic outlook as well as muted inflation pressures…” as reasons for the rate cut.  The Fed’s assessment of the economy remained essentially unchanged, with positive notes that “the labor market remains strong and that economic activity has been rising at a moderate rate…. household spending has been rising at a strong pace..” but that “…business fixed investment and exports remain weak.” There was one subtle change to the language which some believe is a suggestion that another rate cut is less certain. Previously the statement read that the Fed “will continue to monitor the implications of incoming information for the economic outlook and will act as appropriate to sustain the expansion.  But it now reads that the Fed “will continue to monitor the implications of incoming information for the economic outlook as it assesses the appropriate path of the target range for the federal funds rate.”

As expected Kansas City Fed President Esther George, and Boston Fed President Eric Rosengren dissented, wishing to hold rates steady. St. Louis President James Bullard, who wanted a 50 bps cut last time instead of just 25 bps, agreed with October 30th's cut, also suggesting a slightly more hawkish tilt. Finally, in the press conference Chairman Powell stated that Fed members “see the current stance of monetary policy as likely to remain appropriate.”

However, we continue to think another cut is possible in December and two others at the beginning of 2020 as the US economy will continue to weaken. Manufacturing is clearly in contraction, consumption, although solid, is trending down, job growth is slowing, and uncertainty over trade is clearly weighing on investment. Finally, a government shutdown is possible as funding to keep the government running drys up on November 21st. Usually a shutdown is avoided at the last minute, but given the current battle between Congress and the Administration, a shutdown could easily result.

GDP was Solid

Q3 GDP was slightly stronger than expected at 1.9% q/q annualized, a shade slower than Q2’s 2.0%. Consumer spending led the way at a healthy +2.9% pace, although that was down from Q2’s +4.6% rate. Government spending contributed +0.4% while net exports and inventories each subtracted -0.1% from the headline. In addition to the solid consumer spending, the other notable part of the report was the second consecutive drop in business investment which fell -3.0%, most likely due to trade concerns. Residential investment on the other hand rose for the first time in seven quarters, gaining +5.1%, putting the y/y rate at -0.1%. Overall it was a solid report, but as always it should be noted that the GDP report is backward looking as it reflects conditions from the previous three months.  Our forecast for all of 2019 remains at 2.4%, and for 2020 remains at a substantially weaker 1.6%.

What about the Employment Report?

The employment report will be released at 8:30 am this coming Friday and will have greater importance than either of the October 30th's two reports. The GM strike will remove 50k jobs from the headline, but indirect effects could subtract even more. The consensus is for a 90k gain, but there is an unusually wide range of forecasts from 25k to 160k. The report has the potential for a significant impact.  Also on Friday, the ISM manufacturing report comes out, and that will also have extra importance since it is currently showing manufacturing in contraction.

The Bank of Canada Holds

Finally, the Bank of Canada held rates steady again at 1.75%, tied with the Fed’s upper range for the highest of the developed economies. But the statement was dovish and cited trade uncertainty and weak investment. “Governing Council is mindful that the resilience of Canada’s economy will be increasingly tested as trade conflicts and uncertainty persist.” Financial markets give only a one in three chance of a December cut but we believe it’s higher than that as growth is weak, trade uncertainty is likely to continue, and the Bank may come under pressure as the rest of the world moves steadily towards accommodation.

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