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Nomura: Inflation focus will inform Fed's forward guidance

Fed should continue taper despite soft patch

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A note from Nomura Group warns that the economy has hit a soft patch in the first quarter of 2014, but that shouldn’t lessen the Federal Reserve’s commitment to tapering its monthly bond and Treasury purchases.

“A string of weak data partly due to unseasonably cold weather suggest the economy has hit a “soft patch” at the start of 2014,” Nomura reports.

The Fed has reduced monthly purchases from $85 billion in December to $65 billion now.

Nomura warns that rapid inventory accumulation in the fourth quarter of 2013 suggests a payback in the first quarter that will lower growth in coming months. Still, growth will return, the report states.

“The stable fiscal outlook should be supportive for growth over the course of the year,” the report states. “Business investment will likely pick up gradually in 2014 as the outlook improves.”

Fed Chair Janet Yellen said as much to the Senate Banking Committee in late February. Yellen said that although the official unemployment rate has been declining, largely due to people dropping out of the workforce rather than by job creation, it shouldn’t be the sole measure for Fed guidance.

Noumra likewise says the Fed will move from a focus on unemployment to a broader perspective.

“Forward guidance will increasingly focus on inflation as an indication of future short-term interest rate increases,” Nomura tells clients. “Tighter financial conditions, ongoing policy uncertainty, and the pace of global growth remain the key risks.”

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