Despite the sudden reversal in the outlook, fundamental factors suggest the US enjoyed a solid expansion in the second half of 2014. Real GDP year-on-year growth from Q2-2014 onwards outperformed the IMF’s 2014 forecast of 2.4%. Quarterly growth rates during Q2-2014, Q3-2014 and Q4-2014 were 2.6%, 2.7% and 2.5% respectively. The headline unemployment rate, moreover, has edged down to a sub-6% level since September 2014, and the latest reading in January 2015 is 5.7%, edging towards the Fed’s longer run projection band of 5.2% to 5.5%.

Robust growth was observed in industrial production as well. The industrial production index has been growing at rates above 4.2% year-on-year since May 2014, which are significantly higher than the average growth rates from 2011 to 2013 (3.4%, 3.8% and 2.9% respectively). These strong fundamental factors could be one of the catalysts for the policy normalization that has been discussed by the Federal Open Market Committee (FOMC), its policymaking board, since April 2014.

Strong growth in consumer confidence could be one of the major drivers of the solid improvement in the fundamentals. The growth in US consumer confidence has been accelerating since June 2014, when the year-on-year growth rate soared from 5.2% in June 2014 to 22.1% in February 2015. This could be attributed to the recent oil crisis, as the low gasoline prices have increased household real purchasing power. The WTI crude oil price collapsed from USD107.95 per barrel on 20 June, its highest in 2014, to the lowest point of USD 44.08 per barrel on 28 January, 2015, a 59.2% decline. Robust improvement in both fundamentals and consumer confidence therefore provided justifications for the Fed’s normalization plans.

From the latest FOMC minutes released on 18 February, we can see more hints of the US monetary authority planning to raise its main policy interest rate. The Fed has been testing the effectiveness of term and overnight reverse repurchase agreements (term RRPs and ON RRPs, respectively) as possible tools, together with the interest on excess reserves (IOER), for controlling the federal funds rate. Most of the FOMC members agreed the resolution of having two more rounds of testing from 12 February to 30 March 2015, suggesting the FOMC’s further calibration on RRP is needed before reaching the decision. There were also continued concerns among several FOMC members on using RRP as a policy tool, given the potential risks of large flight-to-quality flows to ON RRP facilities which could lead to sudden liquidity withdrawal from the system, and the possible complication of policy communication. While the exact timing of an interest rate increase is still unknown, the highlighted notes in the minutes could signal that the Fed is still exploring the exact implementation of its policy normalization, reducing the immediate likelihood of a move on rates.