- FOMC today will leave rates unchanged but will not back off its intent to slowly raise interest rates
- PI expected stable even as oil price rise
- Industrial production expected to slip
- EIA report expected to show another drop in crude oil inventories
FOMC today will leave rates unchanged but will not back off its intent to slowly raise interest rates — The 2-day FOMC meeting concludes today. The FOMC today will release its usual post-meeting statement as well as updated macroeconomic forecasts and a new set of Fed dots. Fed Chair Yellen tomorrow will hold a press conference after the FOMC meeting.
Just two weeks ago, FOMC hawks were loudly proclaiming that the June 14-15 meeting would be a “live” meeting for a rate hike and the April 26-27 FOMC minutes indicated that a majority of FOMC members were leaning toward a near-term rate hike. However, the June 3 May payroll report of only +38,000 (+73,000 ex-Verizon strike) then surprised the FOMC and caused the markets to reduce the chances for a rate hike at the June meeting to zero from 22% before the payroll report. U.S. payroll growth progressively weakened to +186,00 in March, +123,000 in April, and +73,000 (ex-Verizon strike) in May, raising the possibility of a sustained slowdown in hiring that would hurt consumer confidence and spending.
The slowdown in hiring may be only a lagged and temporary reaction to the weak GDP growth seen in Q4 (+1.4%) and Q1 (+0.8%) and hiring could pick back up with expectations for a recovery in GDP growth to at least +2.5% in Q2. However, the Fed cannot count on that recovery in job growth and therefore has no real choice but to leave rates unchanged this week and hope for an improvement. The FOMC is also under pressure to leave rates unchanged this week since a rate hike would grease the skids for an even bigger sell-off in global stocks next week if UK citizens end up voting to leave the EU in the June 23 Brexit vote.
After this week’s FOMC meeting, the federal funds market is discounting the odds for a rate hike at the next FOMC meeting on July 26-27 at only 14%, down from 62% before the June 3 May payroll report. The odds for a July rate hike are still relatively low because the FOMC by that meeting will have only one additional payroll report (i.e., June) to assess the labor market. After that, the odds for a rate hike rise to 32% for the next meeting on Sep 20-21.
The Fed’s rate-hike path depends to a significant degree on next Thursday’s Brexit vote. If UK citizens vote to leave the EU and the global markets plunge on a sustained basis, then the Fed’s rate-hike regime will obviously be further delayed. However, if UK citizens vote to remain in the EU, or if the fall-out from a Leave vote is limited, then the chances will rise for a near-term Fed rate hike.
PPI expected stable even as oil price rise — The market is expecting today’s May final-demand PPI index to ease slightly to -0.1% y/y from unchanged in April, and for the April core PPI to rise slightly to +1.0% y/y from April’s +0.9%. The U.S. inflation statistics are so far stable but will soon be subject to some upward pressure from the 4-month rise in oil and gasoline prices and from rising import prices tied to the weaker dollar seen this year. At this point, however, the Fed is under no pressure to raise interest rates from an inflation perspective. The Fed’s preferred inflation measure, the PCE deflator, was at only +1.1% y/y in April and the core PCE deflator was at +1.6% y/y, comfortably below the Fed’s +2.0 inflation target. The core PCE deflator has been moving sideways in the range of +1.6-1.7% for the last four months, indicating a lack of upward inflation pressure.
Industrial production expected to slip — U.S. industrial production made some progress in April with an increase of +0.7% and an increase in manufacturing production of +0.3%. However, today’s report for May is expected to show a relapse with a -0.2% decline in industrial production and a -0.1% decline in manufacturing production. The ISM manufacturing index has been above the boom-bust level of 50 for the past three reporting months, which is much better than the below-50 level seen over the previous five months. However, the U.S. manufacturing sector continues to be hamstrung by weak overseas demand and lackluster growth at home with GDP rate of only +1.3% in Q4 and +0.8% in Q1.
Today’s Empire index will provide the first U.S. business confidence reading for June. Today’s June Empire index is expected to show a +4.52 point increase to -4.50%, but that would be only a minor recovery after the -18.58 point plunge to -9.02 seen in May.
EIA report expected to show another drop in crude oil inventories — The market consensus for today’s weekly EIA report is for a -2.5 million bbl drop in U.S. oil inventories, a -740,000 bbl drop in Cushing oil inventories, a -200,000 bbl drop in gasoline inventories, an unchanged level of distillate inventories and a +0.5 point rise in the refinery utilization rate to 91.4%.
U.S. crude oil inventories have fallen for the last three consecutive weeks by a total of -1.7% as part of the usual seasonal drop caused by strong oil demand from refineries running at full tilt to produce summer gasoline. However, there has been no progress on bringing oil inventories down to more reasonable levels since U.S. oil inventories are still a massive +33.0% above the 5-year seasonal average. Product inventories are also in glut territory with gasoline inventories at +11.9% above the 5-year seasonal average and with distillate inventories at +19.1% above average.
The markets will be watching to see if U.S. oil production has finally stopped falling after Baker Hughes reported that the number of active U.S. oil rigs rose in the last two reporting weeks. U.S. oil production in last week’s EIA report rose slightly by +0.1% w/w, which was the first rise in 13 weeks.
