US macro data support fourth rate hike in 2018

The macro data are good enough for the Fed to dismiss economic concerns for adding a hike in December. The market is only pricing in this hike at 33.2%.

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When I say that the US macro data support a fourth rate hike this year, I mean that the data are good enough for the Fed to dismiss economic concerns for adding a hike in December. Ultimately, the Fed will make its rate decision based on inflation and employment. But a robust economic background will shift the balance in favor of more hikes.

ISM and GDPNow macro data from Friday

Two recent data points show strength. The ISM Manufacturing Index came in on Friday above expectations. And all the sub-indices the Fed would care about were robust. I have highlighted them in yellow.

ISM Manufacturing Index May 2018

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On the back of these numbers and the jobs report, the Atlanta Fed moved its Q2 GDP tracker, GDPNow, up to 4.8% on Friday. The chances are strong that we hit annualized 12-month growth above 3% when the BEA releases GDP data in late July.

GDPNow June 1 2018

Lael Brainard’s hawkish commentary on the economy

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A recent speech by Lael Brainard, once considered a dove, makes plain she sees the economic picture positively. On Thursday, she said:

Although indicators of economic activity were on the soft side earlier in the year, the outlook for the rest of 2018 remains quite positive…

[…]

I expect real GDP growth to pick up in the next few quarters. In particular, the fundamentals for consumer spending are favorable…

Moreover, the sizable fiscal stimulus that is in train is likely to provide a tailwind to growth in the second half of the year and beyond. From a position of full employment, the economy will likely receive a substantial boost from $1.5 trillion in personal and corporate tax cuts and a $300 billion increase in federal spending, with estimates suggesting a boost to the growth rate of real GDP of about 3/4 percent this year and next.

Translation: We reiterate our forward guidance for Fed policy. But if anything, the US economy is running hot.

Brainard sees full employment and inflation at target

And specifically, it is the employment situation that gives the most scope for accelerating its timetable (see my comments here on Patreon). But Brainard even mentions inflation as reason for encouragement.

Here at home, the labor market is strong…

It is difficult to know how much slack remains. April’s 3.9 percent unemployment rate was the lowest reading since December 2000. If the unemployment rate falls another couple of tenths–which seems likely, based on recent trends–it will be at its lowest level since 1969.

[…]

…I am seeing more evidence that labor markets are tightening, and wages are accelerating, although at a measured pace.

[…]

Turning to the second leg of our dual mandate, in the most recent data, the trailing 12-month change in core PCE prices was 1.8 percent, up from a year earlier, when core PCE prices increased only 1.6 percent. Overall PCE prices, which include the volatile food and energy sectors, increased 2.0 percent, largely reflecting the recent run-up in crude oil prices. While the recent core PCE data are somewhat encouraging, we will want to see inflation coming in around target on a sustained basis after seven years of below-target readings.

Translation: I am confident that the employment situation looks good. If anything, we should worry that the labor market is so tight inflation will accelerate. Inflation is just moving toward trend and I am encouraged.

At this juncture, a 2-hike scenario is almost fully off the table for 2018. Rapidly, we are moving toward a fourth rate hike that the market is discounting at only 33.2% right now.

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