Five things to watch at the Fed this week

Having entered 2015 in a bullish mood, the US Federal Reserve's top policy makers are now acknowledging a run of weaker data that makes a June interest rate rise much less likely than it appeared just a month ago.

The surging dollar, the drag of falling oil investment and signs that America's soaring jobs market is drifting back to Earth have all chipped away at the case for early rate increases. Setting the tone for the Wednesday meeting will be gross domestic product numbers for the first quarter, which will reflect the leaden influence of the winter freeze that settled over the US East Coast early this year.

The question confronting the committee is whether 2015 is shaping up to be a repeat of 2014 - when a transitory early spell of weak numbers was overshadowed by stronger figures later in the year - or whether a more significant slowdown is in train. Despite the first-quarter weakness, the vast majority of Fed officials predicted last month that the first rate rise would happen this year.

What will the Fed statement say?

The Fed said in its March statement that it was "unlikely" to raise rates in April, so that means it will keep the federal funds target range at its current zero to quarter-point level on Wednesday. Some investors have speculated that it might insert a similar commitment not to act in June given the weak numbers, but that is highly unlikely. Fed policy makers want to keep their options open.

So what will change?

A lot of the action will be found in the first paragraph of the Fed's statement, which is where it describes how the economy is evolving. Barring a major surprise in the first-quarter GDP figures, this will probably give a more definitive statement that the first three months of the year slowed from the 2.2 per cent growth rate at the end of 2014. Goldman Sachs is expecting growth of 1.2 per cent, while a GDP tracker from the Atlanta Federal Reserve is predicting a minuscule 0.1 per cent expansion. One factor to watch is whether the Federal Open Market Committee points out that two of the big drags on the first-quarter numbers were transitory - bad weather and a West Coast port strike.

What about the labour market?

Payrolls increased a fairly modest 126,000 in March, ending a 12-month spell of gains above 200,000 and bringing the high-flying jobs numbers closer to other, weaker activity indicators. The Fed's characterisation of labour market developments will be significant, given the jobs recovery has been the key factor underpinning its plans to tighten policy this year. In March the Fed lowered its estimate of the longer-term unemployment rate to 5-5.2 per cent, suggesting it sees more slack in the labour market. That view has been supported by weak wage growth. A recent working paper from the International Monetary Fund says that roughly a quarter to a third of the decline in labour force participation ratio since 2007 is reversible, meaning that people who have left the jobs market could be enticed back in if demand is strong enough. That could support calls for rates to remain lower for longer.

And inflation?

Fed chairwoman Janet Yellen said in a speech in San Francisco last month that a weakening of core inflation and wage growth, or a further decline in market-based - or survey-based - inflation expectations would make her "uncomfortable" about raising the federal funds rate. In fact, core consumer prices in March actually nudged higher, leaving the annual rate at 1.8 per cent according to the Consumer Prices Index. Given the trade-weighted dollar index is down 2 per cent from a month ago and crude prices have risen somewhat, the Fed may strike a relatively sanguine tone on inflation.

What about global developments?

Ms Yellen's March press conference made clear the influence of the appreciation of the trade-weighted dollar on Fed deliberations. The gains are dragging on exports, with JPMorgan Chase expecting net trade to subtract roughly 0.4 percentage points from GDP growth in 2015. In addition, they have weighed on core inflation by pulling down prices of import-intensive goods such as clothing. Last week Eric Rosengren, the dovish Boston Fed president, told the FT that it would take another two quarters for the dollar's full impact to be felt, suggesting it will be an important influence until well into the second half of the year. The more positive side of the international picture is the stronger economic growth now being predicted for the euro area, following the European Central Bank's quantitative easing programme. While the systemic risks that could ensue from a disorderly Greek debt default worry US officials, there is little they can do but stand on the sidelines calling anxiously for a resolution.

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