Survey shows 75% expectation for Republicans to pass a tax bill
U.S. yield curve flattens to 10-year low as Fed’s rate-hike regime takes its toll
10-year T-note auction to yield near 2.30%
Weekly EIA report expected to show further tightening of U.S. crude oil inventories
Survey shows 75% expectation for Republicans to pass a tax bill — Bloomberg on Tuesday released a survey taken within the past week (Friday-Monday) finding that three-quarters of the 33 economists surveyed expect Congress to pass some version of the House tax reform bill. The respondents predicted a median +0.28 point boost in GDP from the tax bill. The bill at present carries a net fiscal stimulus of $150 billion per year if the final bill goes through with the $1.5 trillion increase in the deficit over 10 years.
The betting odds at PredictIt.org for a tax deal by the end of 2017 remain relatively low at 28%. However, the odds are substantially higher for a deal by early 2018 when Congress will have more time to overcome any objections from particular Senate Republicans or a House Republican faction.
We continue to expect Republicans to pass some form of tax reform since it has virtually become an existential issue for Republicans after failing to repeal Obamacare. To the extent that there are objections to pay-fors or the 10-year deficit, Republican leaders can keep watering down the bill until it satisfies the lowest common denominator of support.
The House Ways and Means Committee today will continue to mark up the House tax bill and still expects to approve the bill on Thursday, then sending it to the House floor for consideration next week. Once the bill reaches the House floor, Speaker Ryan does not intend to allow any amendments. Mr. Ryan still expects the House to approve the tax bill before Thanksgiving, sending it over to the Senate. The Senate Finance Committee is expected to release its version of a tax reform bill this Thursday.
U.S. yield curve flattens to 10-year low as Fed’s rate-hike regime takes its toll — The Treasury yield curve continues to flatten as short-term yields climb due to the Fed’s rate-hike regime, while the longer-end of the yield curve shows a smaller rise due to tepid inflation expectations and firm investor demand for longer-term Treasury securities. The spread between the 10-year and 2-year T-note yields has plunged in the past two weeks by -17 bp to a 10-year low of 68 bp on Tuesday. The last time the 2s10s yield spread was this narrow was back in 2007 before the global financial crisis caused short-term yields to plunge and forced the 2s10s yield spread to surge.
Historically, a flat yield curve has been a harbinger of a weaker economy, or even a recession, due to the Fed rate hikes that usually cause flatter yield curves. However, we do not believe that the flat yield curve is a particularly negative indicator for the economy this time around because (1) short-term interest rates are still at extraordinarily low levels from an historical perspective, and (2) the Fed is raising interest rates very cautiously and much slower than it has in the past, thus giving the economy more time to adjust.
The Fed dots indicate that the Fed, after its expected +25 bp Dec rate hike, plans to raise the funds rate by another +130 bp in 2018-2019, leaving the funds rate at 2.70% by the end of 2019 (vs the current 1.125%). The Fed may yet overdo its tightening move and cause a recession. However, the Fed can easily slow its rate-hike regime if the economy starts to show cracks. In addition, the global liquidity situation will continue to benefit in 2018 from continued QE programs from the ECB and BOJ. Those factors should keep the U.S. economy in decent shape despite the flat yield curve.
10-year T-note auction to yield near 2.30% — The Treasury today will sell $23 billion of 10-year T-notes in a new issue, as opposed to a reopening of an existing issue. The Treasury will then conclude this week’s $62 billion quarterly refunding operation by selling $15 billion of 30-year bonds on Thursday. Today’s 10-year T-note was trading at 2.30% in when-issued trading late Tuesday afternoon, which translates to an inflation-adjusted yield of 0.42% against the current 10-year breakeven inflation expectations rate of 1.88%.
The 12-auction averages for the 10-year are as follows: 2.42 bid cover ratio, $17 million in non-competitive bids, 5.4 bp tail to the median yield, 14.9 bp tail to the low yield, and 34% taken at the high yield. The 10-year T-note is a mildly popular security among foreign investors and central banks. Indirect bidders, a proxy for foreign buyers, have taken an average of 62.5% of the last twelve 10-year T-note auctions, which is mildly above the average of 61.5% for all recent Treasury coupon auctions.
Weekly EIA report expected to show further tightening of U.S. crude oil inventories — The market consensus for today’s weekly EIA report is for a -2.7 million bbl decline in U.S. crude oil inventories, a -1.9 million bbl decline in gasoline inventories, a -1.0 million bbl decline in distillate inventories, and a +0.5 point rise in the refinery utilization rate to 88.6%. U.S. crude oil inventories have fallen in 5 of the last 6 weeks and are now +15.7% above the 5-year seasonal average, which is the tightest level in 2-3/4 years relative to the 5-year seasonal average. The tighter level of U.S. crude oil inventories has been a driver behind the recent surge in WTI crude oil prices. Meanwhile, product inventories are close to normal. Gasoline inventories are +0.3% above their 5-year seasonal average and distillate inventories are -1.7% below average.
U.S. oil production has recovered from the Aug-Sep hurricanes and is currently near a 2-1/4 year high. U.S. crude oil production in last week’s report rose by +0.5% to 9.553 million, which is just -0.1% below the 2-1/4 year high of 9.561 posted in the last week of September. However, the number of U.S. oil rigs has tailed off by -39 rigs (-5%) since mid-Aug to 719 rigs, which is mildly negative for the near-term production figures.