The release of a relatively strong first quarter GDP puts the Federal Reserve in somewhat of a quandary. Does the Fed pay heed to the fact that output expanded at an annual rate of 3.2%, a very respectable rate of expansion in the face of a global slowdown? Or, does it focus on the decline in the inflation as that number moves further way from its stated target?

The quandary is revealed in the comparison of real GDP with nominal GDP. The latter is measured in current prices, while the former is adjusted for price increases during the quarter. Current-dollar GDP increased 3.8%, just slightly higher than real GDP, signalling that there was virtually no inflation for the first quarter.

The data are unmistakably clear regarding the inflation rate.  The price index for GDP increased at an annualized rate of 0.8% in the first quarter of 2019, compared with an increase of 1.7% in the fourth quarter last year. Similarly, the PCE price index increased by 0.6%, compared with an increase of 1.5% in the fourth quarter. The PCE is the preferred measure of consumer inflation by the Fed, and is considered generally by economists as the best measure to gauge the temperature in the economy.Halving the rate of inflation is a major downward shift.

Source : WSJ

Inflation connects nominal and real incomes.  Not only did nominal GDP slow, but the companion measure, nominal personal income growth, also slowed from the rate observed in the fourth quarter of last year. Thus, it is not surprising that the bond market was quite confident that rate hikes are nowhere on the horizon, even the distant horizon. Across the yield spectrum, rates fell  and the 2- 5-year segment of the curve fell the most. To bond investors, the GDP number was not nearly as good as the headlines would suggest.