Macro: The Bottom Line (6/2/2014)

The undoing of the 2013 "consensus"

 

In last week's edition of Macro: The Bottom Line, we discussed at length how central bank signaling has caused rates to pull a 180 relative to May 2013. We made the case that, with neither the Fed nor the ECB ready to pull the plug on ample liquidity, low rates and easy money are here to stay. Well, in case you were still not convinced, take a look at what happened this past week. Long story short, bonds continued their extraordinary run, with the 10-year Treasury yield testing the 2.45 percent level (again, as a reminder, the yield at the start of 2014 was 3 percent).

The culprit this week was the revision to 1st quarter GDP data. And by all accounts, what was already a bad number became a horrendous number: the initial estimate of 0.1 growth in 1Q was revised down to a 1 percent contraction. Business investment and exports both declined, as did inventory accumulation. We have already written in the past about how the inventory binge of 2013 was unsustainable, and the hangover certainly materialized in the first quarter. In short, besides consumption, there was little else going for the U.S. economy in the first quarter.

Yet again, the naysayers have tried to downplay these numbers.  

 

Some resorted again to the argument that - you guessed it - much of the U.S. got slammed by Arctic-like weather in Q1. There's no denying that weather pushed the growth figure into negative territory. But even if we removed the "polar vortex" effect (estimated at about 1.5 percentage points by private-sector economists), the numbers still aren't all that positive. A rough back-of-the-envelope calculation (-1 percent plus 1.5 points) gets us to half a percent, hardly something to celebrate.

Others pointed out that some of the key detractors from GDP this quarter - notably exports, inventory, and business investment - are highly volatile. Many would also add that as temperatures get warmer, at least one of these GDP sub-components should turn upwards. Fair point, but it's important to keep in mind that, using an alternative gauge that excludes inventories and exports, growth was 1.6 percent. Better, but nowhere near the pace needed to sustain the gains we've seen lately in the labor market.

Of course, we can spend hours and days debating how "reliable" the 1Q data is. But the more relevant concern is: what does this mean for Fed policy going forward? We'd argue that, even taking the naysayers' arguments into account, the data gives a further reason for Yellen & Co. to think twice before contemplating any type of monetary tightening. Why allow corporate lending rates to drift higher, when the goal is to push business investment back into positive territory? Why tolerate an increase in mortgage rates, when broader economic sentiment has so much staked on the housing recovery? Why induce a stronger dollar, when the economy needs any support it can get from the export sector? No, like it or not, exceptionally low rates and easy money are not going to disappear anytime soon. Slowly but surely, the 2013 monetary-withdrawal "consensus" is melting away.