The Fed is Unlikely To Cut Rates

Crude prices may fall further

BY Nouraldin Al Hammoury

The ISM Manufacturing Purchasing Managers Index (PMI) shocked the markets recently with a recessionary signal, as it dropped below the 50 key mark for the first time since 2012. This constitutes the largest decline and worst reading since 2009 when the PMI dropped to a 48.6 mark.
A PMI reading above the 50 mark indicates that the manufacturing economy is expanding and beneath that mark indicates that the economy is generally shrinking.

What’s interesting about such an outcome is that when we look back at the U.S. Federal Reserve history, the Fed has never raised rates when the ISM Manufacturing PMI dipped below the 50 level.
Every time the Fed stopped its quantitative easing (QE) programs, since the financial crisis to date, this sector has gone back into a recession. Does this imply that the Fed needs to ease the policy instead of tightening it? Time will tell.

Positive jobs report
The U.S. economy added 211,000 new jobs, slightly higher than the 200,000 estimates. October’s reading has been revised higher to 298,000 instead of 271,000. However, the manufacturing sector unexpectedly lost one thousand jobs. The unemployment rate stabilized at 5 percent in line with market estimates. The long-term unemployment rate unexpectedly increased to 9.9 percent in November up from 9.8 percent in October, while the estimates were set for a decline back towards 9.7 percent. The wages came in softer in November compared to October. The month on month average hourly earnings increased by 0.2 percent, while the year on year reading slowed back to 2.3 percent. Both figures are in line with the market estimates.

Investors angered by ECB’s decision
The European Central Bank (ECB) surprised the markets by opting for less intervention and fewer new measures than the market expected. The ECB decided to cut the deposit rate by 10bps only, at a time when the market was waiting for a 20bps cut. Moreover, the ECB left its monthly purchases at 60 billion euros ($65.3 billion) but extended the QE until March of 2017, which means that extension is only for six months. After the ECB’s decision, the German Central Bank chief said he did not vote in favor of adding more stimuli including the deposit rate cut, saying that the staff projection does not recommend further stimulus measures. In return, the euro posted the biggest daily gains, not seen since 2009, while the U.S. Dollar Index had its worst day since 2009, in addition to declining by more than 2 percent.

ECB’s Christmas gift to Janet Yellen
In the meantime, all eyes have shifted towards the U.S. Federal Reserve, which is expected to be announced in December. Many expect ECB chief Mario Draghi’s decision to be a Christmas gift to the Fed’s chief, Janet Yellen, who would be happy to raise rates when the greenback index drops below the 100 threshold. However, there are many recessionary signals, including the ISM Manufacturing PMI’s recent plunge. Looking at the Fed’s history, it has never raised rates when the ISM PMI reading went below the 50 key level.

OPEC meeting puts oil at risk
It is already known in the market that the Organization of the Petroleum Exporting Countries (OPEC) sets a target of 31.5 million barrels a day, but the member countries have been exceeding the target. Raising the limit does not change things. With Indonesia rejoining the organization. With no production cuts announced, the decision was widely anticipated, and the oil market got the message quickly. WTI Crude declined by more than $2 back to $39.60, while Brent Crude eased back to $42.60 so far. A decision such as Iran insisting on pumping an additional one million barrels a day once the sanctions are lifted, would likely put a lot more pressure on crude prices.

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