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- US: Policymakers to navigate US Inflation and long-term yield pressures
- Singapore: Budget 2025 aims to alleviate cost of living while featuring long-term initiatives to sustain economic growth
- Indonesia: BI’s focus is on monetary policy and supporting economic growth as the government consolidates fiscal policies
- Thailand: Gradual economic recovery faces rising external threats from US tariffs and geopolitical uncertainties
US: Options to contain long-term yield. A tight labour market, strong retail demand, and seasonal factors are adding heat to US inflation readings with January headline and core CPI surprising on the upside. A monetary dimension appears to be at play too. After contracting through most of 2024, US broad money supply growth has picked up. M2 growth is a decent predictor of core inflation a year from now, as seen in the chart below. The Fed needs to watch out as the relationship points to well above 3% core inflation ahead.
Treasury Secretary Bessent has shifted the market’s attention towards containing 10Y US Treasury yields, rather than President Trump’s pressure on the Fed to cut the Fed Fund Rate (FFR). Given that US funding costs are more closely tied to longer term yields, not shorter-term rates (which the Fed directly controls), this intuitively makes sense. However, the US’s burgeoning fiscal deficit (7.2% on a rolling 12-months basis) and robust growth momentum are putting significant upward UST yields.
The most obvious way to bring long-term yields lower is to reduce the budget deficit. Bessent, as part of his 3-3-3 plan, wants to bring the deficit down to 3%. Sticky spending (comprising Medicare, Social Security, defence, and interest outlays) make up about 64% of total expenditure. There is simply not much room for meaningful spending drops until the Medicare and Social Security costs are addressed. Moreover, Trump’s flagship TCJA (currently set to expire in end 2025) will likely be fully extended, adding an estimated USD400bn to the budget deficit annually. Tariffs can be used to raise revenues but these likely need to be universal. According to the CBO’s estimate, 10% universal tariffs may reduce the deficit by USD2.1tn over ten years. Given significant uncertainties on the policy front and the risk skew towards more spending, we see meaningful budget consolidation as a low probability-high impact option.
The Fed has several tools to lower interest rates but these are only used during extraordinary circumstances. Currently, the Fed is running QT at a cap of USD60bn a month. It will probably be difficult for the Fed to unitise these measures at a time when the US economy is firm. Operationally, the Fed should be acting countercyclically to smooth out economic cycles. Rates should therefore be high. If fiscal dominance becomes a theme, the Fed may lose independence and act in coordination with the Treasury to manage financing costs.
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