Trade war complicating the Fed’s job

Extreme policy uncertainty in the US is leading to sharp movements and increased volatility. Recent bond yield dynamics signal a shift from seeking safety in US assets to a reassessment of Treasuries and the USD as ultimate safe havens. While we think it is too early to question the trust in US assets, we also think any challenge to the Fed’s independence and so much policy uncertainty could undermine investor confidence. For instance, the perceived risks around capital outflows and some repositioning in the markets caused the recent divergence between US yields and dollar. Looking ahead, the main themes to watch are:

• Trade war and protectionism will affect US growth, but a tariff-induced recession is still not our base case.  GDP growth this year is projected at around 1%, down from nearly 3% last year. Tariffs and consumption pressures, labour markets and negative wealth effect are the main factors that will affect growth. While US tariffs will put pressure on European exports and growth, there are some bright spots for the region – fiscal spending in Germany, low oil prices and the muted EU response to US tariffs.
• The Fed faces challenges on consumers’ inflation expectations but will likely tilt towards supporting growth.  If consumers’ inflation expectations become unanchored, and if they start affecting wage negotiations, those expectations will reinforce actual inflation. The timing of the Fed’s move will be important. For now, we believe it will reduce rates three times this year.

You can now read the full whitepaper at the link below