US Fed hikes rates as expected; tax plan moving towards approval

Three more rate hikes likely in 2018

KUWAIT: Markets had a highly eventful week as the three major central bank meetings took place, important economic figures were released and more details on the US tax plan developed. The US FOMC raised the federal funds rate by 0.25 percent to 1.50 percent as had been widely expected. The main updated policy signal from the Fed was the plan to stick to gradual rate hikes in the coming years. The updated median dot plot projections revealed that the Fed still plans to raise rates by a further three times in 2018 and two times in 2019. Furthermore, the potential impact of the planned tax overhaul was factored into most Fed officials’ growth forecasts. The median projection for growth next year was raised by 0.4 percent to 2.5 percent and by 0.1 percent to 2.1 percent in 2019. However, it is worthy to note that the longer run growth forecast (4+ years) remained unchanged at 1.8 percent indicating the Fed’s skepticism that the tax cuts might only provide a shortterm boost to the economy. Despite the increased growth projections, core inflation forecasts remained unchanged echoing the Fed’s recent concerns of an extended soft patch. Indeed, November’s Consumer Price Index released this week, showed the seventh weak monthly core CPI reading this year. Nevertheless, the FOMC reiterated their position that economic conditions will evolve in a manner that will warrant gradual rate increases while the actual path of the federal funds rate will depend on the economic outlook based on incoming data.

The US tax reform bill ran into some unexpected issues after two Republican senators sought changes in the final HouseSenate bill as it was being finalized. Orrin Hatch, chairman of the Senate tax committee and one of the bill’s chief authors, said the Senate could probably vote on a final Senate-House measure as near as the December 18. Senators Marco Rubio and Mike Lee were seeking for a change in the child tax credit that is meant to lower the tax bills of working families with children. Rubio stated he would vote “no” if the changes were not made while Lee said he was undecided on the bill in its current form. Republicans have a 52-vote Senate majority. As such, they can lose no more than two of their own votes and still win approval. In case of a tie, Vice President Mike Pence would be able to vote to pass the bill. Late Friday however, republican negotiators said they were able to reach a deal with the requested adjustments to please both senators adding to prospects of having the bill passed.

The US dollar continued its 13 day rise heading into the FOMC meeting December 13. However the high was short-lived as the dollar index reversed course falling 0.76 percent at the conclusion of the meeting. Most participants saw the meeting more dovish than they expected and the soft inflation figures released the same day added to their concerns. The index managed to rebound late Friday after republicans said they managed to reach an agreement over the tax reform bill. The US dollar index opened the week at 93.928 and closed at 93.948.

The Euro was little changed throughout the week trading in a tight range. The dip in the USD after the Fed meeting saw the EUR/USD move slightly higher before returning to previous levels after a dovish European Central Bank signaled it will continue to maintain stimulus for as long as needed. The EUR/USD opened the week at 1.1767 and closed at 1.1766.

The Pound Sterling, which has been gaining steadily as of late due to the positive progression of Brexit negotiations, traded cautiously heading into the Fed, Bank of England, and ECB meetings at the end of the week. After rising against the USD after the Fed meeting the GBP/USD pair was unable to maintain the new levels as the BoE gave a fairly muted response and Brexit uncertainties returned regarding the next stage of negotiations due to start in January. The GBP/USD opened the week at 1.3390 reached a high of 1.3462 and closed at 1.3319.

The Japanese yen was in consolidation reacting to the developments happening in the west. General weakness saw the yen appreciate around 1.20 percent against the US dollar. The new complications regarding the US tax bill and the US Fed’s concerns over low inflation were some of the main factors. The USD/JPY opened the week at 113.47 and closed at 112.57.

In commodities, oil prices had volatile movements last week after reaching a 2 year high and then quickly dropping afterwards. Early in the week, the closure of the North Sea pipeline had Brent crude reach a high of $65.83 per barrel. However, prices rebounded after US crude stockpiles were offset by a larger-than-forecast rise in gasoline inventories and as US crude output continued to grow to record highs. Gasoline stocks rose by 5.7 million barrels, compared with analysts’ expectations in for a 2.5 million-barrel gain. Meanwhile, weekly US crude production jumped by 73,000 barrels a day to 9.78 million barrels a day. American output is approaching the all-time high of roughly 10 million barrels reached in 1970. Brent Crude opened the week at $63.29 reached and closed at $63.23.

ECB keeps policies unchanged

US inflation

Consumer prices rose 0.4 percent in November in line with forecasts while underlying US consumer inflation slowed 0.1 percent. The CPI was boosted by the rebound in energy prices while the core figure held down by weak healthcare costs and the biggest drop in apparel prices in nearly two decades. Inflation has moderated for much of this year, leading to concern among some Fed officials that the factors holding back price pressures could prove more persistent. As a result, year on year, headline inflation increased to 2.2 percent while the underlying decreased to 1.7 percent.

Producer prices also rose 0.4 percent for the third month in November as energy prices helped drive up business costs. Stripping out more volatile items like food and energy, inflation at the wholesale level was up 0.3 percent also ahead of economists’ forecasts. Year on year, the PPI for is now 3.1 percent while the core figure reached 2.4 percent.

US retail sales

US retail sales increased more than expected in November as the holiday shopping season got off to an early start. The Commerce Department said retail sales rose 0.8 percent last month, with households buying a range of goods even as they cut back on purchases of motor vehicles. Data for October was revised to show sales gaining 0.5 percent instead of the previously reported 0.2 percent increase. Consumer spending, which accounts for more than two-thirds of US economic activity, is being supported by steady wage gains as the labor market tightens. Year on year, sales have now accelerated 5.8 percent.

ECB move

The European Central Bank kept its policies unchanged in their December 14 meeting while reiterating their commitment to maintain their asset buying program for as long as needed. However, the bank raised its eurozone growth forecasts from this year through to 2019 and increased its expectations for inflation in 2020 close to its target of almost 2 percent. Growth was forecasted to reach 2.3 percent in 2018 and 1.9 percent in 2019, up from previous projections of 1.8 percent and 1.7 percent, respectively. Higher energy prices led to inflation forecasts being revised higher to 1.4 percent in 2018 while remaining the same at 1.5 percent in 2019 and higher again at 1.7 percent for 2020. The projections show the ECB believes it will fall short of its 2 percent goal in 2020 signaling the euro-area economy isn’t strong enough to warrant reductions in monetary stimulus. President Mario Draghi also made it clear not to expect any changes to monetary policy for some time when he said, “It’s quite early before we talk about change in our monetary policy support, though in the presence of an expansion which is gaining momentum, our confidence towards this objective is increasing and is certainly greater than it was at the last monetary policy meeting.”

Eurozone Index

The Eurozone economy picked up further momentum at the end of 2017, with December seeing the fastest growth of business activity for nearly seven years. The headline IHS Markit Eurozone PMI rose to its highest since February 2011 at 58.0 in December according to the ‘flash’ estimate. Activity rose in response to higher inflows of new orders, which showed the biggest monthly increase for just over a decade. In manufacturing, the largest upturn in new orders since April 2000 was boosted by export orders rising at a rate only marginally below November’s record high. Growth of new business in the service sector was meanwhile the highest in over a decade, highlighting the broad-based improvement in demand.

Kuwait

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