US economy: We expect the US economy to grow above potential in 2019 and to gradually converge to its long-term growth rate of around 2% in 2020 as the boost provided by fiscal expansion in 2018 will gradually lose steam.
The path ahead for the Fed: With the economy running above potential and the labour market becoming tighter, the Fed may choose to continue normalising and hiking rates until signs of a deceleration in growth materialise. The Fed’s expectations regarding inflation are broadly aligned with our own forecasts (2.2% Amundi vs 2.3% Fed median), but risks remain tilted to the upside. In our view, the Fed will be more cautious than in 2018 and we expect a pause in the hiking cycle by mid-2019 at the latest. The Fed has also made clear that it will not change its strategy for shrinking the balance sheet:
Financial conditions: The rise in credit spreads represents a de facto tightening of credit conditions that the Fed can no longer ignore. The amount of investment-grade BBB corporate bonds is at a record level. Should the economy experience a sharp slowdown, these bonds would be at risk of downgrade to high yield (HY), potentially causing forced sales and therefore a sudden tightening of all credit conditions. Hence, the Fed will have to monitor the ability of companies to absorb a further tightening of their financing conditions. We also think that the huge rise in US funding needs in a context of lower liquidity will likely continue to be satisfied by dollar investors and will contribute to a tightening in global financing conditions. Hence, we see the potential rise in long-term core government bond yield as very limited.
Political interference: Although we see the Fed defending its independence, there is the risk that political interference could prove counterproductive.
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