Growth from support to be short lived
10th March: Highlights
- Spike in infections highly likely as lockdown is lifted
- 6.5% growth this year as stimulus drives economy forward
- Q4 GDP marginally better than expected
House price rises presage consumer inflation increase
The concerns voiced by independent members of the MPC that the recovery will not be sustainable without a move to negative rates are gaining pace and the balancing of the books with regard to public debt may take longer and require more significant tax rises than were delivered by Rishi Sunak in his budget last week.
The positive effect of the release of pent-up demand when non-essential retail outlets reopen next month will be relatively short lived, reminiscent of the lead up to Christmas but on a larger scale.
But that will not provide long-term gains in other areas of the economy with a nuclear winter in the employment market entirely possible.
Comments from the two most senior members of the scientific community released yesterday were a little like the early days of the Pandemic when there was talk of herd immunity. Professor Chris Whitty and Professor Patrick Vallance spoke of a third possible surge in infections.
The ratio of cases to deaths will be far lower but when the Government’s four step plan is complete there will undoubtedly be an increase in infections, hospitalizations will be lower but still happening and there will still be fatalities but on a far lower scale.
The sense that the country is going to return to normal quickly and Covid-19 will be a thing of the past simply won’t happen as the timing of the lifting of restrictions is critical and the dates mentioned by the Prime Minister when he revealed his plans remain under threat.
The pound rallied back close to the 1.40 level yesterday as the market took a breath following a significant correction for the dollar index. It rose to a high of 1.3925, closing at 1.3892.
Pace to double thanks to stimulus
Economists are now predicting a far faster decline in the unemployment rate with a level of between 5% and 5.3% now expected by year end.
There are even suggestions that the economy may be back at its pre-Pandemic level by the end of this quarter, a mere three weeks away.
While leading indicators do not yet show a turnaround to be certain, the level of optimism remains.
However, the official comments emanating from the Fed are more cautious about support being necessary for several months, interest rates remaining low for the foreseeable future and the spectre of higher inflation unlikely to bring any pressure on monetary policy.
Inflation is expected to peak at around 2.6% midway through Q2 but will likely gradually fall back to around 2.3% by year end. This is well within the expectations announced by Jerome Powell when he commented that there will be some overshoot, but the average rate will remain at or below the Fed’s 2% target.
Given the turmoil wrought at year end over the election and the civil unrest that was threatened, it seems that the new Administration has passed its first test.
No date has been given for the new President’s State of the Union speech and it is unclear why it has been delayed so long since it was originally scheduled for February 29th.
Given the contrasting views on the pace of the recovery, investors and market participants will want to keep their powder dry ahead of next week’s FOMC meeting.
It is unlikely that Powell will change his cautious approach. His rhetoric may be a little more confident, but he is sure to say that targets have not been met despite a short-term improvement.
Yesterday, the dollar index fell back to a low of 91.91, closing at 91.96.
Exports set to fly as dollar strengthens
At this week’s ECB meeting, Christine Lagarde is unlikely to say much about the currency intimating that the Bank wasn’t overly concerned with how high the euro climbed but the fall while welcome is not yet a significant factor.
There is a growing belief that the region can export its way out of recession although that will depend on Germany, far and away the largest exporter in the region, seeing a sustained increase in activity, its vaccination programme gathering pace and the lifting of lockdown being both permanent and imminent.
French Finance Minister Bruno le Maire commented yesterday that he expects the recovery for gather pace once the lifting of lockdown restrictions begins.
In a similar manner to the UK there will be a concern that the recovery could fizzle out, especially if Spain, Italy, Greece, and Portugal are not able to open their holiday resorts in time for the late Spring.
Le Maire was joined by the Governor of the Banque de France in his optimism. He commented yesterday that the recession is behind us. It is hard to see that being true for the time being as activity levels are still scraping long the bottom.
Francois Villeroy de Galhau estimated French GDP growth at 5% this year and for France to be among the strongest in Europe. It may be true to say that there may be little competition for that accolade.
Volatility in the single currency is expected to rise with so many contrasting views about the rollout of the vaccination programme, the fear of rising inflation, the continued and possibly increased levels of support from the ECB and tourism possibly setting a timetable for reopening.
Yesterday the euro rose to a high of 1.1915, closing at 1.1901. It still looks tough for it to rally back above 1.20 but a lot depends on the dollar and the market’s reaction should the Fed remain dovish in its outlook.
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.”