14 February 2023: Regulation is killing productivity

14 February 2023: Regulation is killing productivity


  • Brexit has cost £1,000 per household
  • January’s inflation could make FOMC eat their words
  • No recession but severe headwinds
GBP – Market Commentary

Little difference to bureaucracy in post Brexit Britain

Brexit has cost the UK £28 billion, according to Bank of England official and MPC member Jonathan Haskell. That equates to roughly £1,000 per household.

The majority of that figure relates to a fall in private sector investment in the country, which has slowed to a trickle and is a significant contributor to the significant fall in productivity and output.

The vote to leave the EU has resulted in severe scarring to the economy and according to Haskell, the Government can only hope that the damage inflicted is not permanent, although it will take a generation for the country to return to its place at the top table.

It is apparent that small business groups want to be involved in discussions about the future relationship with the European Union. Rishi Sunak recently ruled out a deal similar to that of Switzerland, where the country has access to the single market in exchange for a reduced contribution to Brussels’ budget.

There has been a lot of noise recently about the UK becoming a high taxation economy, and that is partly why global brands like AstraZeneca are leaving for lower taxation regimes. Two of the largest Eurozone economies, France and Germany, have tax receipts roughly equal to half the size of their economies. For the UK, that figure is about 40%.

So to make the excuse that high taxation is driving investment away is not quite true.

Small business owners were recently surveyed about how much the level of bureaucracy has fallen since Brexit. The answer was very little, despite this being one of the major planks of the leave campaign. Although there have been no polls held recently, it is believed that if a vote on Brexit were held today, the result would be overwhelmingly to stay.

Another scare tactic employed by the leave campaign was that the country would be forced to join the single currency, thus losing sovereignty over monetary policy. The countries that currently are members of the EU but have opted out of the euro are not facing any pressure whatsoever to join. While it is true countries like Denmark and Sweden are considered outsiders, the effect on their economies is considered negligible.

This week, data for employment and inflation will be released in the UK.

The employment delivered this morning is predicted to see average earrings tick up again to 6.5%. While this is still well below the fate of inflation, it is still likely to pique the interest of the Central bank.

Inflation which will be published tomorrow is likely to remain in double figures, which ensures another fifty point hike in the base rate of interest.

If Andrew Bailey is to be believed, there will need to be an almost precipitous fall in inflation in order for the Bank of England to meet its own target.

The pound rallied quite strongly yesterday, but stayed within the confines of its recent range. It reached a high of 1.2152 and closed at 1.2137.

USD – Market Commentary

Good news expected on inflation, but not that good

Although it is two weeks since the official marking of Groundhog Day in the U.S. the Federal Reserve appears to be living through a repeat of the aftermath of several FOMC meetings.

They hike rates, then give a mildly hawkish statement on their intentions which the market interprets in its own way then, when the inflation report is delivered which it will be, prices have fallen but not as much as the Central Bank wants or expects.

The entire process is likely to be repeated in the middle of next month, when a rate hike of twenty-five basis points will likely be delivered.

U.S. investors are not used to seeing the Federal Reserve being so indecisive. They collectively applauded the four consecutive meetings last year when rates were increased by seventy-five basis points. This showed a determination to drive inflation lower, but they are unable to match the latest hike, which was of just twenty-five basis points, to the rhetoric which remains that the FOMC still wants to be seen as being tough on inflation.

The data released later today is expected to show that headline inflation continues to fall, but in small increments that the Fed would like. The latest prediction is for headline inflation to fall by just thirty points from 6.5% to 6.2%, while core inflation falls from 5.7% to 5.5%.

The FOMC is pinning its hopes on moving interest rates into restrictive territory, and given the lack of response from the employment data, there is no reason to expect anything different from inflation yet.

The turnover of membership of the FOMC is likely to have a moderate effect on voting in the coming months. Loretta Mester, the outspoken President of the Cleveland Fed, will retire soon, while the other eleven regional Presidents take their place in the rotation.

Neel Kashkari, President of the Minneapolis Fed, returns to the FOMC next month, and he is considered far more hawkish than many of his colleagues, although he is also rational in his arguments and looks at the big picture.

The outcome of the inflation report will, no doubt, inject a degree of volatility into the dollar index, but it will take a significant outlier to move it out of its recent range.

Yesterday, the index tested the lower levels of the current range, falling to a low of 103.23 and closing just a few pips higher.

EUR – Market Commentary

Eurozone also likely to escape recession, for now

The downturn in the global economy has affected all the G7 with several nations coming close to being in recession towards the end of 2022, but so far without exception they have managed to just escape having to declare a technical recession.

It would have been very unlikely given the events of late summer and early autumn that the Eurozone would be able to escape, but data released later this morning is expected to confirm that the economy grew by 0.1 in the fourth quarter, unchanged from the third.

Given the fall in the wholesale gas price and the significant improvement is both business confidence and investment, the likelihood is that the eurozone will see a rate of growth that is similar to last year, although there remain significant headwinds to its progress.

Any significant flare up in the war in Ukraine will likely blow the economy off course, while Russia still has significant influence over energy imports despite the Union weaning itself off its reliance on imports from recently.

There are contrasting views of what the ECB will do after its March meeting, which is expected to be something of a watershed since rates are expected to arrive at a restrictive level should the Central Bank delivers the expected fifty point hike.

Boris Vujcic, the Governor of the Croatian Central Bank and the newest member of the Governing Council, commented that the ECB will continue to raise rates after March since inflation is not falling fast enough. Croatia currently has an inflation rate of 15%, so it has a vested interest in another rate hike.

Other members of the Governing Council, who appear to have appointed the Italian Central bank Governor as their spokesman, expect the ECB to act responsibly in hiking rates only when it is absolutely necessary and to be more data driven.

Christine Lagarde will make a speech tomorrow, but is unlikely to deviate far from her recent comments on inflation and growth.

The euro continued to drift yesterday as there were no new factors affecting its progress. It reached a high of 1.0730 and closed at 1.0722.

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.