Why A Fed Rate Hike Could Continue As Scheduled Despite Greece

While the global economic world remains transfixed on the situation in Greece, Citi Research analyst William Lee believes that the FOMC will continue to focus on improvement in the U.S. economy when it comes to determining U.S interest rate policy.

Following last week’s jobs report that indicated 223,000 jobs added and a 0.2 percent drop in unemployment rate to 5.3 percent, Citi continues to predict that the FOMC’s first rate hike is coming in September.

Strong Data

In addition to the strong data provided in last week’s report, Lee mentions 3.0 percent growth in real consumer spending in Q2 and a sharp rise in motor vehicle purchases as indicators of continuing economic recovery. Several key housing indicators have also been positive lately, and overall nonresidential construction spending has been strong, despite weakness in the oil industry.

Related Link: Nomura's Base-Case In Greece Is A Negotiations Deadlock

Rising Term Premiums

Lee reminds readers that the last time that extreme changes in financial conditions led to a modification of FOMC policy came back in 2013 when the Fed decided to delay the tapering of its asset purchases. A spike in the term premium caused an extended period of elevated Treasury and corporate bond yields. Higher term premium is usually an indicator of market uncertainty about the future of interest rates.

This Time Is Different

According to Lee, the modest rise in term premium since May is not indicative of the same kind of uncertainty that was seen in 2013. “Current conditions in the fixed income market are more subdued and unlikely to cause the FOMC to delay its timing for the start of rate normalization,” Lee explains.

Citi still believes the risk in the timing of the first rate hike remains skewed toward further delay rather than toward an earlier-than-expected move.