The author is an analyst for NH Investment & Securities. He can be reached at sw.kang@nhqv.com -- Ed.
While Secretary Yellen's key goal in 2023 was to secure TGA cash despite a massive fiscal deficit, the one for 2024 is to be improving the fiscal balance by using the tax revenue surplus. This implies the removal of upside risk for yields, which had been a key risk factor for this year.
Yellen’s intention: Secure fiscal sustainability rather than expand spending
We believe that the key new material provided to the market last week was the Treasury Department's quarterly refunding plan (QRA), rather than the January FOMC. The main points of this QRA were: 1) a reduction in the size of bond issuance, a move contrary to market expectations; and 2) plans to net redeem T-Bills (US$245bn) over April~June.
We advise considering the backdrop that allowed the reduction in issuance rather than concentrating simply on the result. The US 4Q23 GDP growth rate announced after the last QRA (Oct 2023) far exceeded the market expectation. This development suggests that government revenue in the last quarter was a surprise as well.
The point to note here is how the government utilizes the revenue surprise. Yellen intends to use the increased tax revenue to improve the fiscal balance, not for spending. Particularly in the case of T-Bill redemption, considering our outlook for a Fed rate cut in 2Q24, reissuing at lower rates after redemption will improve the fiscal balance. In other words, Yellen is looking to secure fiscal sustainability rather than boost spending.
The expansion of the government's fiscal deficit placed strong upward pressure on US GDP in 2023. But, this quarter’s QRA suggests the possibility of a slowdown in the contribution of government spending in 2024. From a market standpoint, this means that as the amount of fiscal contribution decreases, the role of monetary authorities in economic support increases. Market expectations toward a rate cut after 2Q24 have upped despite the removal of predictions toward an early rate cut. We note the removal of upward risk for yields from fiscal policy, which had been a key risk factor this year.
January effects repeat for third year in a row
Every January, the Fed makes statistical adjustments to reflect changes in population estimates. The problem in play now is distortion caused by seasonal adjustments made after the Covid-19 crisis. Accordingly, the number of new hires recorded 467,000 in Jan 2022, 3.74x more than the forecast (125,000), 517,000 in Jan 2023, 2.75x more than the forecast (188,000), and 353,000 in Jan 2024, 1.91x more than the forecast (185,000).
There’s no reason to downplay the big surprise of the January employment indicator, but we advise at least taking into account these statistical characteristics.
We have consistently argued that a disinflation cut this time around does not require the presence of a recession. This employment indicator removes expectations for a rate chop in March, but considering our outlook concerning the Beveridge curve, we adhere to our prediction toward a Fed rate cut in 2Q24.