FINANCIAL NEWS HIGHLIGHTS OF THE WEEK
- The outlook for economic growth got a bit rosier this week with the release of the preliminary February survey results of purchasing managers that showed economic momentum continuing to build at the start of 2017.
- The data flow this week was light for the U.S., but existing home sales for January confirmed that the U.S. housing market remains resilient despite the uptick in mortgage rates. Still, the outsized strength in January is unlikely to be maintained, as a number of temporary factors come off in upcoming months.
- Little news in the FOMC minutes other than a confirmation that the U.S. economy was evolving in line with expectations. Overall, the FOMC remains confident that the slow and steady absorption of economic slack, and the corresponding progress of inflation toward its 2% target, warrants a gradual pace of tightening of monetary policy.
BUILD IT AND THEY WILL COME
This week we got further signs that global economic growth continued to firm at the start of 2017. Despite elevated policy uncertainty, financial market volatility remains low, but it’s unclear if this is a sign of market certainty or complacency about the economic outlook.
Indeed, the global outlook is looking a little rosier than a month ago. Preliminary surveys of manufacturers for February point to continued strong expansion in advanced economies despite elevated political uncertainty from upcoming European elections.
One thing markets have taken notice of is the gains Marine Le Pen has made in the polls. If she were to become President of France, the populist candidate plans to call a referendum on France remaining in the EU if she is unable to renegotiate its terms of membership. The threat of ‘Frexit’ caused spreads between French (and other euro area) bonds with German bunds to widen this week.
The data flow this week was light, but supported our view of U.S. economy growing above its trend pace at the start of 2017. Along with the supportive preliminary manufacturing survey data, January existing home sales rose to the highest level in a decade in January – despite a 70 basis point rise in mortgage rates since last September (Chart 1). Strong existing home sales are further confirmation of the progress the U.S. housing market has made since the crash over a decade ago. Nonetheless, this elevated level of activity is unlikely to be maintained in upcoming months for a number of reasons.
First, some of the activity likely reflects a pulling-forward in contract signings in order to lock-in low mortgage rates. Secondly, unusually warm weather also helped pull forward some activity from the spring market. Lastly, until more sellers put their homes on the market, the low inventory of homes will weigh on sales volumes and put upward pressure on prices (Chart 2). While several years of home price growth have moved helped homeowners to rebuild equity buffers and should allow move-up buyers to re-enter the market, a gradual move higher in housing turnover is more likely than a sudden shift. Overall, we expect the U.S. housing market will record another strong performance this year, supported by fundamentals such as rising household formation and past gains in income and wealth.
The strong performance of the U.S. economy to start the year remains broadly consistent with the Fed’s economic projections, as was noted in the minutes released this week from the first FOMC meeting of the year. The Fed also discussed the uncertainty about the economic impact from the proposed changes in fiscal policy by the new administration, changes that will likely have material implications to the Fed’s economic projections and the pace of policy normalization. Overall, the FOMC remains confident that the slow and steady absorption of economic slack, and the corresponding progress of underlying inflation toward its 2% target, warrants a gradual pace of tightening of monetary policy. Our view is for the next move up the fed funds rate to take place in June, but we cannot rule out a March or May rate hike if the data flow surprises to the upside.
Fotios Raptis, Senior Economist
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