Repo market, dot plot will star at FOMC meeting

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With Federal Reserve officials offering a united front on keeping interest rates on hold, the focus of this week's meeting will be on the Summary of Economic Projections and the repo market.

In the latest dot plot, “no officials had another rate cut penciled in through the forecast horizon,” said Tom Garretson, fixed income portfolio strategist at RBC Wealth Management. For next year, he said, there was a divide: “about half looking for rate hikes, the rest holding steady.”

The rate hikes now expected in 2021, could shift “forward to 2020 if recent relative economic strength and still-strong labor markets/wage growth gives some officials more confidence,” he said. “Unemployment rate forecasts and estimates of ‘full employment’ could be interesting.”

In his press conference, Fed Chair Jerome Powell will probably be asked about the repo market, with “perhaps some color on the inflation outlook amid the Fed’s policy review,” Garretson said. The Fed has been intervening in the repo market since a spike in rates in September, attributed to a corporate tax payment due date and auctions settling. The Fed had been cutting its balance sheet, which rose in the wake of the financial crisis, after it started "normalizing" interest rates, resulting in less liquidity in the repo market.

Edward Moya, senior market analyst, New York at OANDA, agreed. “A big focus will fall on the dot plots which could show that policymakers see the next move being a hike in 2021,” he said. While “a summer rate cut” remains possible, “continued momentum in the labor market could continue to derail those expectations.”

Data
Small business optimism surged to 104.7 in November from 102.4 in October, the National Federation of Independent Business’ (NFIB) Small Business Optimism Index showed. Seven of the 10 index components gained, with earnings leading the way.

“Owners are aggressively moving forward with their business plans, proving that when they’re given relief from the government, they put their money where their mouth is, and they invest, hire, and increase wages,” according to NFIB Chief Economist William Dunkelberg. “Owners are most closely focused on issues that directly impact their business, including the real, significant tax relief they were given two years ago, and they’re anxious to see that relief made permanent.”

The report “completely agrees with last week’s blockbuster nonfarm payroll reading,” OANDA’s Moya added. “Small businesses seem poised for a strong fourth quarter and credit conditions remain favorable. The report did see declines with plans to increase inventories and for sales expectations.”

A 21% net share of small businesses expecting to hire, up from 18% in October, Mickey Levy, Berenberg Capital Markets' chief economist for the U.S. Americas and Asia, and U.S. Economist Roiana Reid, wrote in a note. “These elevated hiring intentions and plans to raise worker compensation bode well for continued solid income and consumption growth.”

Businesses with fewer than 50 workers make up 41% of nonfarm private employment, according to ADP.

Separately, nonfarm productivity dipped 0.2% in the third quarter, the most since the last quarter of 2015, the Labor Department reported Tuesday, while unit labor costs grew 2.5%.

In the preliminary estimates productivity had been off 0.3% in the quarter and labor costs were up 3.6%. In the second quarter, productivity rose 2.5% and costs climbed 0.1%.

Economists polled by IFR Markets expected productivity to slip 0.1% and costs to rise 3.4%.

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