EFTA01457207.pdf

27 March 2015 US Fixed Income Weekly issues discussed earlier. Consequently, even though the stronger dollar will Figure 8: Goods prices will continue weigh on net exports and help dampen inflation pressures, the drop in energy to fall but this should be offset by will ultimately be a boon to consumers. Regarding the negative impact on energy-related spending and hiring, it is worth noting that employment within services the transportation sector, arguably the industry best positioned to benefit from %SOY Cora CPI lower fuel costs, is more than three times larger than the energy sector as a percentage of total employment (4.6% vs. 1.4%). The reason we have not lowered our GDP forecast for 2015 or beyond is that we believe that dollar appreciation will be offset by the stimulus from lower oil prices. Hence, we are maintaining our top-down forecast from last December, but the mix of underlying output growth has changed —we have factored in a larger drag from international trade, but this is largely offset by stronger domestic spending .3 If the economy is able grow 3% this year, the unemployment rate is likely to 2001 2003 2006 2037 2009 2011 2013 2015 —Sensoes —Goods continue declining at its current pace, which is roughly one percentage point per year. Our forecast assumes the unemployment rate will fall to 4.7% by Seen ILA ilater,409449; Dana* Yog Aso% yearend, which is well below the Fed's central tendency of 5.0% to 5.2%. This further expected tightening in the labor market, which will be accompanied by Figure 9: A rising hiring rate points rising hiring and quit rates, should exert upward pressure on labor costs. In turn, this should add to policymakers' confidence that inflation will trend back to an acceleration In wage costs toward their 2% target, thus allowing the Fed to begin the process of monetary 46 % 13 policy normalization at the September 16.17 FOMC meeting. As always, there are risks to the economic and financial outlook. 38 12 30 11 • With respect to output growth, there is a risk that recent dollar appreciation exerts a larger-than-anticipated drag on the US economy than 23 10 what we have assumed in our forecast. This would also put further downward pressure on goods inflation and likely stay the commencement 15 9 of interest rate normalization a bit longer. 08 8 2001 1003 2006 2007 1009 2011 2013 • Another downside risk is that the second-order effects of lower energy —Erni:lowness Cost Index. 201a9 Ma) prices on capital spending and energy-related employment are larger than -JOLTS Prima MX Inn) what we currently anticipate. At the same time, the boost to domestic San* EIS Harr *St Dairen /3009 March spending from lower energy prices may not fully come to fruition if households and businesses chose to save a meaningfully greater portion of the energy tax cut. • In terms of the upside risks to growth, the rapid appreciation of the dollar may already be reflective of divergent central bank policies. In turn, the pace of dollar appreciation may slow significantly over the coming quarters, and could even reverse, resulting in less drag on net exports and Figure 10: External balances & domestic production than we currently assume. financial forecasts • Another upside risk is the labor market. As the job market continues to XIS 20.41; NM. Alle strengthen and the unemployment rate declines meaningfully further, anal balanca.%ca GDP 40 .29 20 .20 Trae•balanca. L/50 bn 476 -532 wage and income growth may rise faster than expected, thus providing saes Wince WS GOP '7 8 .31 .3 3 .al Carnal account. VSO bo 407 463 .507 441 households with even more spending power than we envision. Gummi account, %a ODD .24 .26 .28 .96 :0E9 C4:01. CI • The final upside risk pertains to inflation. The aforementioned potential for Oncial 0 12 0.13 0,83 0118 714 rods 026 0.26 016 13a faster wage gains, combined with a more dramatic recovery in energy USD pot OUR 10) 104 103 098 .Pr per LISO 119 121 13. 126 prices relative to our projection — possibly the result of less dollar VS0 on MP I 49 147 IX 133 appreciation, stronger overseas growth and substantially less oil production — may push headline inflation more quickly back toward the son nisnentaaraoneaaa On.eacna Bra Restock as oe &twain 20 Fed's 2% target. With respect to all of the aforementioned risks, this is perhaps the one that financial markets are least prepared for. Joseph A. LaVorgna, (l) 212 250 7329 Brett Ryan, (1) 212 250 6294 Aditya Bhave, (1)212 250 0584 Deutsche Bank Securities Inc. Page 41 CONFIDENTIAL — PURSUANT TO FED. R. CRIM. P. 6(e) DB-SDNY-0116651 CONFIDENTIAL SDNY_GM_00262835 EFTA01457207