Thursday, July 17, 2008

RBC thinks that the US Federal Reserve to keep rates low in first half of 2009

RBC thinks that the US Federal Reserve to keep rates low in first half of 2009 and initiate process to return to neutral in the second half

Our forecast calls for the U.S. economy to grow at a lacklustre rate in the first quarter of 2009, gain some traction about mid-year as financial market volatility eases and the cost of capital moderates and then expand at a sub-potential pace for several quarters, meaning that the U.S. output gap will widen and relieve some of the upward pressure on prices.

However, core inflation is likely to remain at about 2% next year. With the economy reaccelerating and the financial system mending, the Fed will begin to remove some monetary stimulus. We expect the Fed funds rate to rise to 2.5% by the end of 2009, with the first increase likely to come in the summer. We believe that the yield on the two-year bond will end 2009 at 3.25%, considerably lower than our previous forecast of 4.15%, with the 10-year rate forecast at 4.75% (from 5.1% previously).

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