US: QE taper continues despite weaker growth in Q1

  • In an anticipated move, Fed reduced asset purchases by another USD 10 bn to USD 45 bn/month.
  • This step came despite the sharp slowdown in US GDP during Q1 2014. US economy slowed to 0.1% QoQ (ann.) in Q1 2014 as against 2.6% QoQ (ann.) in Q4 2013.
  • We believe that the slowdown in Q1 GDP is transitory and will revert to trend rate of growth in Q2 as weather related concerns
    taper off. With this backdrop, Fed is likely to conclude the QE tapering program by Q4 2014

 

Fed tapers its asset purchases by another USD 10 bn…

In line with market expectation, the Fed reduced its asset purchase program from USD 55 bn/month to USD 45bn/month. Component wise, Fed would trim its purchases of long-term Treasury bonds to USD 25 bn/month (from USD 30 bn previously) and mortgage-backed securities (MBS) to USD 20 bn/month (from USD 25 bn).

 

...despite poor GDP data for Q1 2014

Fed’s decision to taper its asset purchase program further came against the backdrop of weaker GDP growth for Q1 2014. US real GDP grew by “only” 0.1% QoQ (annualized) in Q1 2014 – sharply lower than market expectation of 1.2% QoQ (ann.) and 2.6% QoQ (ann.) in Q4 2013.

Contribution wise, the consumption sector contributed 2.0 percentage points to overall growth, investment and net exports were the key drag, subtracting 1 percentage point and 0.83 percentage points respectively from growth.

Though the GDP data was significantly below expectation, we believe that it is one off for the following reasons. Firstly, the Bureau of Economic Analysis emphasized that the first-quarter advance estimate released today is based on incomplete data and is subject to further revision. The “second” estimate for the first quarter, based on more complete data, will be released toward the end of next month. Secondly, once the weather related concerns taper off in Q2 2014, we believe that investment and exports related production will pick up again. Thirdly, consumption sector, which accounts for ~70% of the economy, continues to contribute significantly to the overall growth.

 

Outlook: Fed asset purchases to conclude by Q4 2014

We believe that the Fed will continue to gradually reduce the asset purchases and conclude the program by Q4 2014. Fed commentary suggests that the economic activity is picking up in Q2 after the slowdown in Q1, broadly in line with our thinking. At the same time, the Fed repeated that it’s likely to keep the benchmark interest rate near zero for a “considerable time” after bond purchases end.