EFTA Document EFTA01457207

27 March 2015 US Fixed Income Weekly issues discussed earlier. Consequently, even though the stronger dollar will weigh on net exports and help dampen inflation pressures, the drop in energy will ultimately be a boon to consumers. Regarding the negative impact on energy-related spending and hiring, it is worth noting that employment within the transportation sector, arguably the industry best positioned to benefit from 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 If the economy is able grow 3% this year, the unemployment rate is likely to 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 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 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 toward their 2% target, thus allowing the Fed to begin the process of monetary policy normalization at the September 16.17 FOMC meeting. As always, there are risks to the economic and financial outlook. • With respect to output growth, there is a risk that recent dollar appreciation exerts a larger-than-anticipated drag on the US economy than what we have assumed in our forecast. This would also put further downward pressure on goods inflation and likely stay the commencement of interest rate normalization a bit longer. • Another downside risk is that the second-order effects of lower energy prices on capital spending and energy-related employment are larger than what we currently anticipate. At the same time, the boost to domestic 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 domestic production than we currently assume. • Another upside risk is the labor market. As the job market continues to strengthen and the unemployment rate declines meaningfully further, wage and income growth may rise faster than expected, thus providing households with even more spending power than we envision. • The final upside risk pertains to inflation. The aforementioned potential for faster wage gains, combined with a more dramatic recovery in energy prices relative to our projection — possibly the result of less dollar appreciation, stronger overseas growth and substantially less oil production — may push headline inflation more quickly back toward the Fed's 2% target. With respect to all of the aforementioned risks, this is perhaps the one that financial markets are least prepared for. Figure 8: Goods prices will continue to fall but this should be offset by services %SOY Cora CPI .3 2001 2003 2006 2037 2009 2011 2013 —Sensoes —Goods Seen ILA ilater,409449; Dana* Yog Aso% 2015 Figure 9: A rising hiring rate points to an acceleration In wage costs 46 % 13 38 30 23 15 0 8 2001 1003 2006 2007 1009 2011 2013 —Erni:lowness Cost Index. 201a9 Ma) -JOLTS Prima MX Inn) San* EIS Harr *St Dairen /3009 March 12 11 10 9 8 Figure 10: External balances & financial forecasts XIS 20.41; NM. Alle anal balanca.%ca GDP 40 .29 20 .20 Trae•balanca. L/50 bn 476 -532 saes Wince WS GOP '78 .31 .3 3 .al Carnal account. VSO bo 407 463 .507 441 Gummi account, %a ODD .24 .26 .28 .96 :0E9 C4:01. CI Oncial 0 12 0.13 0,83 0118 714 rods 026 0.26 016 13a USD pot OUR 10) 104 103 098 .Pr per LISO 119 121 13. 126 VS0 on MP I 49 147 IX 133 son nisnentaaraoneaaa On.eacna Bra Restock as oe &twain 20 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) CONFIDENTIAL DB-SDNY-0116651 SDNY_GM_00262835 EFTA01457207