11 April 2023: Bank of England to face a dilemma


  • Utility hike to slow retail sales
  • Labour market weakening – maybe the start of a soft landing
  • Food inflation intensifies
GBP – Market Commentary

Rate hikes necessary but so are stimulus measures

The hike in utility prices that came into force on April 1st has had the effect of slowing retail activity, even though the wholesale cost of energy has fallen since last Summer.

Should this continue rather than being a knee-jerk reaction, the Bank of England will be faced with an awkward decision when it next meets early next month.

Inflation is falling, and while that is expected to continue by the markets, there are two imponderables. The first is core inflation, which doesn’t include energy and foodstuffs, is not reacting to rate hikes as much as the headline.

Furthermore, there is disagreement between members of the Monetary Policy Committee about how much the effect of recent rate hikes are still to be seen in economic activity have interest rates reached the point where they are restricting activity.

It could be, as argued by MPC member Silvana Tenreyro, that rate increases that have taken place since the turn of the year have not yet had their desired effect. This may be in the course of moving rates into restrictive territory, and may cause inflation to fall too quickly, and have the knock-on effect of driving the economy into a recession.

Although the OBR and IMF believe that the recent actions taken by the Government set the economy on the road to recovery and neither expects there to be a recession, they assume that the Bank of England will end its programme of rate hikes following the next meeting at the latest.

This is also the analysts’ expectation, although there are still some lingering hawkish views being expressed, most recently by Chief Economist Huw Pill, who believes that the Bank needs to see the job through to the end.

The pound managed to set a new high for the year of 1.2525 early last week, but then has run out of steam seeing three consecutive down days as the dollar staged something of a recovery.

It closed the week at 1.2417 and fell further yesterday, in a thin, illiquid market. It reached a low of 1.2344 and closed at 1.2381.

Data for industrial and manufacturing production are due for this week, while Bank of England Governor, Andrew Bailey will make a speech tomorrow.

USD – Market Commentary

Unemployment remains at historic lows

The watershed moment that had been predicted for the U.S. following the release of the March employment report never really happened.

236k new jobs were created by the economy last month and while this may be the start of a trend lower as three NFPs for this year have each been lower than the last, they show that the rises in interest rates are beginning to have an effect on job creation.

When considering the fall in job vacancies seen in March, there is a view among some that if the economy can somehow conjure up some positive sentiment over this quarter then the Fed may achieve its overarching goal of producing a soft landing for the economy.

There was a marginal upwards revision to the February NFP in the March report as well as an improvement in the participation rate, while the unemployment rate remains close to historic lows. It fell from 3.6% in February to 3.5% in March.

Three Fed Presidents will be making speeches today. Minneapolis, Philadelphia and the newly elected President of the Chicago Fed. While Neel Kashkari and Patrick Harker have been FOMC members for some time, Austan Goolsbee is a newcomer and his views will provoke a degree of interest.

The Dollar finally managed to find some support last week as both the Euro and Sterling found the going tough. Sterling reached its short term goal of 1.25 while the single currency fell short of the 1.10 level reaching 1.0973 on two consecutive days.

The dollar index rose to a high of 102.29 having briefly threatened to test significant support at 100 earlier in the week. In thin markets yesterday, the Greenbank took advantage of the lack of liquidity to rally to a high of 102.76, closing at 102.55.

This week, as well as FOMC members spelling, there will be a flurry of economic data released, including the March inflation report tomorrow. While the headline may tick up slightly given the rise in the oil price following the OPEC cut in production, the core is expected to fall to 5.2% from 6% previously.

Jobless claims continue to see a steady increase. The weekly figure above the level of 200k that is considered the benchmark, while the four-week average is at 237k.

EUR – Market Commentary

Dutch Central Bank wants inflation tamed for good of all

The ECB’s policy of rate hikes that looks set to continue into the third quarter is the only game in town as far as the financial markets are concerned.

While the liquidity crisis created by the virtual collapse of Credit Suisse has tested the resilience of the market and the work that has been done bolstering the balance sheets of several banks, the markets have to a large extent put that story to bed.

ECB Chief Economist Philip Lane, speaking in Nicosia last week, spoke of his view that given the recent fall in the wholesale price of energy and the efforts being made by Brussels to source both oil and gas from suppliers other than Russia, that food inflation will be the major driver of price growth.

While he sees prices falling as the year progresses, the shortages that are being seen as a direct result of the war in Ukraine mean that food price inflation hasn’t yet reached its peak.

The Governor of the Bank of Greece, Yannis Stournas, spoke last week of his belief that the ECB was nearing the end of its tighter monetary policy cycle. This was almost immediately contradicted by his Dutch colleague Klaas Knot who believes that the Central Bank certainly isn’t yet done with interest rate increases.

Knot is a member of the Frugal Five, also made up of Austria, Germany, Belgium and Finland, which appears to have wrestled control of the management of monetary policy from the more dovish, heavily indebted Eurozone members.

Christine Lagarde has switched her view of interest rates to a more hawkish outlook since the end of last year, but as rates approach neutrality it would not be a surprise to see her try to introduce some support, possibly through an end to quantitative tightening.

The euro failed to reach its medium term target of 1.10 versus the dollar last week. With hindsight, it was maybe predictable that it would fail on its first attempt. It remains to be seen how much of a correction it will see, and how strong the market’s dedication to the single currency’s new-found support is.

It retreated from a high of 1.0973 and closed yesterday at 1.0861.

Retail sales data is due for release later today. After a fall of 2.3% in February an even greater fall of 3.5% is expected.

Have a great day!

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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.