FYI | Jun 26 2006
By Rudi Filapek-Vandyck
Only a few more days before the world receives another update on the US Federal Reserve Bank’s view on interest rates, inflation and economic growth, but it would seem several experts have already drawn their conclusions: US interest rates will move up faster and further than previously expected.
Economists at Barclays Capital and Danske Bank have increased their US interest rate expectations and both believe this somewhat dampens the outlook for global economic growth and thus demand for natural resources.
Barclays describes the move as a "significant change" having increased its forecast of Fed Funds by 0.5% to an end-year target of 6%. This leads to a decrease in projected US GDP growth in the first half of 2007 by 0.5% to 2%.
Barclays economists previously expected the US Fed Funds to peak at 5.5%.
Barclays comments this change reflects a recent phase of stronger than anticipated US economic growth, which is expected to persist into the second half of 2006. The economists feel this will keep Bernanke & Co’s concerns about resource utilisation and inflationary pressures elevated.
Barclays intends to update its price forecasts for base metals. Reading in between the lines of Friday’s report it is clear the previous forecasts are likely to be cut. The experts remain comfortable with their current price projections for energy (oil and gas) and agricultural products.
Economists at Danske Bank also revised their US interest rates outlook. Danske now expects the fed funds rate to hit 5.50% as early as August, implying this week’s expected hike will be followed up by another one at the next meeting.
Danske anticipates a rise in US core inflation to around 3% by Q1 2007 and thus expects the Fed to tighten monetary policy further. Softer growth data during the summer and autumn will cause the Fed to slow the tempo after the August meeting, the economists predict.
Danske now forecasts US interest rates will hit 5.75% within six months and 6.00% within twelve months. Similarly to their colleagues at Barclays, Danske economists highlight the more rapid tightening by the Fed implies greater risks to economic growth in 2007.
The warnings by Barclays and Danske must be music in the ears of economists and equity strategists at JP Morgan. The Wall Street powerhouse has been on the bearish side regarding resources for several weeks now. The position has been reiterated in a sector update this morning.
JP Morgan is worried that global central bank tightening will slow G3 growth more quickly than anticipated by the market. The experts point out the US is already showing weaker trends in two sectors that are major users of base metals, housing and automotive. Given China accounts for 25-30% of base metals demand it is questionable whether Chinese demand can support prices in the absence of supportive growth from the US, the experts state.
The Federal Open Market Committee meeting will meet on 28-29 June.