05 May 2021: Manufacturing output revised higher

Manufacturing output revised higher

5th May: Highlights

  • Scottish election to lead to referendum?
  • Yellen sees low interest rate environment for foreseeable future
  • Euro set to fall as double dip hits economic forecasts

End of furlough to bring its own concerns

The recovery of the UK economy continues to gather pace. It appears that every piece of economic data fits perfectly into the puzzle.

However, the degree of stimulus and support that has been provided to ensure that the country would be prepared to reopen once the Pandemic was under control will at some point need to be withdrawn and that will bring its own concerns.

Fears continue to grow that as the Government’s main piece of legislation; the furlough scheme, will be withdrawn before the economy is fully on its feet.

The scheme has been extended twice and now ends in September. Whether that will be sufficient is open to debate. Businesses that have not been able to generate sufficient cash flow given almost an entire quarter to recommence their operations probably never will.

There could be a surge in unemployment at that time and this will mean that the Chancellor will have to budget for a rise in benefit payments together with no receipt of tax and N.I. payments.

For this reason, this week’s Bank of England MPC meeting will hold additional significance.

The questions over whether a cut in interest rates in the Autumn will be necessary remain. The fact that was there to be a cut it would take rates into negative territory is a major structural concern.

The makeup of the Bank’s interest rate operations is one of the oldest remaining events that takes place in the City of London. Talk of removing LIBOR (the London Interbank Offered Rate) as the standardized benchmark for the pricing of floating rate loans is also happening.

In advance of tomorrow’s meeting, the pound remains driven by the dollar. Yesterday, it fell to a low of 1.3838 but recovered to close at 1.3888. The pound’s ranges have begun to narrow as the market remains unclear about the ability of Sterling to hold up as and when the dollar’s inevitable recovery begins.

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Effects of stimulus and vaccination to continue all year

The Fed and Treasury remain in lockstep regarding the spectre of inflation rising out of control.

While Jerome Powell continues to comment that he has a plan, while his colleagues raise their expectations for full year GDP, the market, not used to being expected to be patient, begins to speculate.

Yesterday, San Francisco Fed President Mary Daly predicted GDP growth at 6.5% this year.

The large New York banks are using models to predict the outcome of various scenarios and the Central Bank’s expected path but until the FOMC provides advance guidance, traders and investors don’t know which way to jump.

It would be unimaginable if the Fed were to just sit back and watch as inflation races through its 2% target without any action, so the market’s patience may be demanded until the end of the current quarter.

Analysts have set an informal demand that the Fed inform markets of its intentions at the time that core PCE inflation breaks the 2% level.

This informal demand could easily be ignored but the effect on the market would be unpredictable and that would bring its own dangers.

So far, the recovery has gained pace as the stimulus delivered by the Administration has filtered through into all walks of life. Treasury Secretary Janet Yellen continues to fully support rising public spending in true Democrat style.

Yesterday she spoke of issues over collection of unpaid taxes and how President Biden is likely to act. Over the past decade, unpaid taxes total close to $7 trillion. As Biden threatens further hikes in taxation, that burden is likely to grow.

Yellen also commented that the country would be in a low interest rate environment for some time.

The dollar index appears to be forming a base but is unable as yet to gain sufficient momentum to break through stubborn areas of resistance.

Yesterday, it again tested 91.40 but fell back to close at 91.28

Consumers set to power a major recovery?

The EU Commission has demanded several times that members of the Union should look to increase trade with each other as a method of insulating the economy from outside influences such as currency fluctuation.

However, as the Eurozone economy continues to flounder, larger companies see exports to areas where the recovery is taking place at a faster pace as a method of inducing their own recovery.

This brings headaches of its own as factory workers need to receive their vaccinations in order to return to work while the supply chains are still fragile and easily broken.

Confidence remains high amongst the public that once the economy begins to reopen it will all happen in a very short time. The experiences of the UK have shown that a relatively slow but robust plan needs to be in place.

The contrast between the U.S., UK, and Eurozone in how they have dealt with the pandemic will ultimately affect how they recover.

The ability of the U.S. to borrow almost infinite amounts given its pre-eminence as the world’s bank is often questioned. However, it has allowed President Biden to borrow to fund stimulus packages. Ultimately that will benefit the global economy.

In the UK, the Government has borrowed historically vast sums that will eventually have to be repaid but the Chancellor is banking on interest rates remaining low and the recovery seeing growth and therefore corporate taxes to cover the bill. The benefit of the vaccination rollout has also been one of, if not the, major factor.

The Eurozone has fallen between two stools. Its vaccine programme has repeatedly stalled while there have been issues regarding distribution of funding and what its ramifications will be for the wider Union. It is unclear what will happen when the ECB inevitably starts to consider both tapering the support and raising interest rates.

As usual official policy remains to wait and see, but the day of reckoning gets ever closer.

Yesterday, the euro struggled to make fresh gains and it now looks to be only a matter of time until it falls back below the 1.2000 level versus the dollar for the final time in the current cycle.

Yesterday, it fell to a low of 1.1999 and barely recovered to close at 1.2014.

Have a great day!
About Alan Hill

Alan has been involved in the FX market for more than 25 years and brings a wealth of experience to his content. His knowledge has been gained while trading through some of the most volatile periods of recent history. His commentary relies on an understanding of past events and how they will affect future market performance.”