16 November 2021: Brexit squabbling to hurt both sides

Brexit squabbling to hurt both sides

16th November: Highlights

  • MPC split over rate hikes
  • Rising inflation is the subject of continued speculation
  • Lagarde keeping mum over long-term plans for rates

Bailey supports a hike in rates, but not in the majority

There are concerns that Brexit will be of greater long-term harm to the UK economy than the pandemic, and the fact that the negotiations over the Northern Ireland Protocol are continuing shows that the UK’s path to independence will be both long and complicated.

The EU cannot understand that a country would prefer to go it alone rather than remain a member of a group that provides exclusive access to the massive trading potential that the EU provides.

On the other hand, the UK Government believes that the restrictions placed upon member countries mean that the country cannot fulfil its potential to work independently with its traditional trading partners.

The two are still embroiled in a disagreement over what is called the Irish Sea Border, which exists in order to allow the free flow of goods between Unionist Northern Ireland and the Republic in the south.

Fears are growing that the UK will initiate the terms of Article sixteen of the agreement, which is designed to be used if the agreement is causing societal, economic, or environmental difficulties. The fact that goods arriving from the rest of the UK have to be checked at the border is felt by the Northern Irish authorities to be becoming unworkable, While Brussels fears a backdoor into the free trade zone could be created.

Invoking Article Sixteen would mark a new low in the relationship between the two and would drive an already rocky relationship into further difficulty.

Neither side will use article sixteen recklessly, preferring to threaten its use rather than actually pushing the button.

Bank of England Governor Andrew Bailey spoke yesterday of his unease at the pace at which inflation continues to rise in the UK. This marks the completion of a volte-face from his relaxed attitude from a few months ago when prices started to rise to a belief that the Bank may be forced to tighten monetary policy.

The MPC was split 7-2 against a rate hike at its most recent meeting and the division has been illustrated by recent comments from the perpetually hawkish Michel Saunders who displays an almost German attitude to inflation and the Bank’s new Chief Economist Hugh Pill, who believes that the economy needs to retain its recent level of support.

Bailey now clearly leans towards a hike and was quoted yesterday as saying that every forthcoming MPC meeting has the potential for a rate hike.

The pound fell to a low of 1.3404 yesterday, closing at 1.3406. It appears that the pound is considered cheap at its current level, although it retains the possibility that if Article Sixteen were to be invoked, the shock may see it fall further.

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Although Kashkari still considers it transitory

Neel Kashkari, the President of the Minneapolis Federal Reserve, took his turn to speak about the inflation burden that continues to grow in the U.S.

Kashkari is considered to be a moderate member of the FOMC who believes in a more fluid approach to monetary policy without a set-in stone belief that leads him to be flexible allowing monetary policy to be set according to the situation at any given time.

He considers the time is right for the Central Bank to adopt a reactive rather than proactive attitude to the withdrawal of support and an eventual rise in interest rates.

In an interview over the weekend, he commented that he expects to see even higher inflation in the coming months, but he also warned against an overreaction that could see the recovery badly affected.

He acknowledged that the economy is facing real pain from inflation but believes that the factors that are causing it to remain temporary.

President Biden’s advisors were forced to defend his actions over the economy as accusations from the right continued. They insisted that the level of support being provided by the Administration through various programmes is contributing to inflation, which hit 6.2% last month.

Kashkari was asked about the President’s pending decision about whom to appoint as Fed Chair. He sat on the fence describing both his colleagues as capable. He went on to say that both are seasoned and experienced policymakers. Not only that, but he went on to say that whoever gets the nod from the President will not let the country down.

Data released yesterday showed that activity in New York State rose to30.9 last month, up from 19.8. This was a far greater rise than the market had expected and continues to drive the belief that the level of support the economy is needing is fading.

The dollar index rose to a high of 95.60, closing at 95.52. It looks as if it may be due a correction but given diverging monetary policy expectations any fall could be quite shallow.

Lagarde refuses to speculate over when inflation will fall

The ECB President remained coy when questioned yesterday about the potential for tighter monetary policy in the Eurozone in the longer term.

There is speculation that the policy of lower for longer will eventually lead to the need for rates to be increased faster than if the process were more gradual.

Lagarde has already almost ruled out any rise in interest rates in 2022, and when asked about 2023 yesterday, her reply was unusually coy.

She said that she would not venture into speculation about the path of interest rates in 2023 citing the fact that the economy is continually evolving and although policy is set using the bank’s sophisticated models, there is always the capacity for a shock as was seen at the start of the Pandemic.

She went on to express her surprise at the strength of the rise in inflation, but she also believes that the factors that are driving prices higher can fade just as quickly, and it would be foolish to base monetary policy on such shifting sands.

The concern for the Central bank would be if rising wages were feeding back, creating longer-term inflation fears.

The next ECB rate setting meeting will be held on 16th December, and although any changes in the economic outlook will obviously be discussed, any change to the level of support being provided is highly unlikely.

Spanish Finance Minister Luis de Guindos spoke yesterday of his surprise that the factors causing inflation are still rising, and this could go on for a longer than expected period.

This is nothing new but shows that the ECB remains concerned about rising prices.

De Guindos went on to put the blame for higher inflation firmly at the door of energy prices. This is weighing on the buying power of households across the region, and as winter approaches the effect will be magnified. He believes that the bank must retain its current policy stance in order to provide a stable financing platform.

The euro suffered again at the hands of a strengthening dollar yesterday. It fell to a low of 1.1356 and closed at 1.1360. The longer it remains below 1.14, the more likely a continued fall towards support at 1.1175 is likely to occur.

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.”