Negative Q1 GDP Could Kill Fed's Rate-Hike Plans

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05/06/2015 06:57 PM ET

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Economy: Looking back, the first-quarter economy may be worse than first thought. Many were surprised when growth was estimated at just 0.2%. Now, it seems, GDP might have shrunk, spoiling Fed rate-hike plans.

Those who blamed the first-quarter GDP weakness on freezing weather no doubt will be surprised to learn that wasn't the only reason for the sudden slump. A global downturn, a strong dollar, rising oil and, yes, cold weather, all played roles.

When it was announced this week that the trade deficit widened to $51.4 billion in March, as the strong dollar hurt exports, it meant GDP growth will almost certainly be revised into negative territory for the first quarter. Oh, and productivity shrank at a 1.9% rate, too.

Now even the second quarter's looking iffy. The Institute for Supply Management's index of factory activity stood at 51.5 in April, below expectations and equaling the lowest reading since 2013. Meanwhile, ADP's survey of company payrolls tallied just 169,000 new jobs in April, way below the 270,000 forecast for the Labor Department data to be released Friday.

With a weaker tone to some key data, a second-quarter rebound looks questionable, and the Fed's hints that it will hike interest rates in June seems unlikely.

Why? For one, in addition to weaker factory activity, our IBD/TIPP Economic Optimism Index slipped 1.6 points, or 3.1%, to 49.7 — that is in "pessimistic" range.

But the number that really caught our attention is the new "GDP Now" figure put out by the Atlanta Federal Reserve Bank. That number uses data, as they come in,to make real-time estimates for near-term GDP growth.

It's not perfect. But in the first quarter, GDP Now estimates were way below the Wall Street consensus by two full percentage points or more. But its final forecast of 0.1% growth came closest to the real number.

So with Wall Street again expecting a pickup in the second quarter — the consensus calls for 3%-plus growth — what does GDP Now see? An anemic 0.8% GDP gain. That estimate, if again correct, may mean the U.S. is falling into recession before the Fed even raises rates.

If so, we'd be stunned if the Fed began hiking interest rates by the middle of the year — or even at all this year.

It will face tremendous political pressure not to do so. Not only would a rate hike slow the economy, but it would raise payments on the $18 trillion in U.S. federal debt sharply — and send deficits soaring again.

All in all, the Fed's threats to raise interest rates this year are starting to look like just that — threats and nothing else. Stay tuned.

Read More At Investor's Business Daily: http://news.investors.com/ibd-editorials/050615-751386-second-quarter-gdp-might-not-be-much-better-than-first-quarter.htm#ixzz3ZTNmKuJI
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