22 June 2023: Sunak and Starmer clash over inflation

22 June 2023: Sunak and Starmer clash over inflation


  • May inflation “bakes in” today’s hike
  • Powell believes that interest rate pause is temporary
  • Is eurozone inflation really “too high”
GBP – Market Commentary

The ONS believes that BoE may have to provoke a recession to bring inflation under control

If there were any lingering doubts over whether the Bank of England would raise interest rates when the vote takes place at its meeting which concludes later this morning, they were dispelled by the publication of the May inflation report.

Headline inflation was unchanged last month at 8.7% as the continued fall in energy prices was offset by the continued excessive cost of foodstuffs. While a twenty-five-basis point hike in short-term interest rates was virtually certain before the data was released, it is now “baked in”.

The Office for National Statistics, when considering the data and the lack of any change, particularly given that the Bank of England has been raising rates constantly since December 2021, believes that there is little option but to allow the economy to fall into recession as the “nuclear option” to curbing inflation.

While prices are rising across the board, it’s the repricing of fixed-rate mortgages that is having the most effect on the public consciousness. During Prime Minister’s questions in Parliament yesterday, the opposition leader, Sir Kier Starmer, clashed with Rishi Sunak over the Government’s handling of the cost-of-living crisis. However, he was particularly careful to put forward suggestions for what the Labour Party would do if, or more likely when, it comes to power.

When compared to the last time there was a series of concerted interest rate hikes, over two decades ago, there were significantly fewer fixed-rate mortgages than exist today. Therefore, the ability of the Central Bank to affect inflation is “diluted” as the effect of rate hikes is spread over time.

There were more calls for the Government to step in with support for those with fixed-rate mortgages, who, when the loans are repriced between now and the end of the year, will see an increase of up to three thousand pounds in their monthly repayments.

It would be difficult for the Government to justify any support for those struggling to meet the cost of their mortgages, since that would alienate rent payers who have also seen their outgoings rise significantly, especially when their landlord has a buy-to-let mortgage.

There is no doubt that the next year or so will be tough across the board, and it will further diminish the Conservative Party’s ability to make any inroads into the Labour Party’s lead in the polls if the economy is languishing in or very close to a recession.

Given the level of inflation, it is unlikely that Andrew Bailey will be able to give any guidance as to when the current cycle of interest rate hikes will end, which will lend further support to the pound.

Yesterday, 1.2802 but fell back to close marginally higher at 1.2770.

USD – Market Commentary

More moderate pace of hikes likely

Jerome Powell made his half-yearly “pilgrimage” to Capitol Hill yesterday to appraise Congress on the state of the economy, how effective the steps that the Fed has taken to curbs inflation have been and present his outlook for the rest of 2023.

He struggled to justify the pause in interest rates that the FOMC agreed at its meeting that took place last week, particularly when he was adamant that it was only temporary when he hinted that there would be a return to further hikes at the July meeting.

When quizzed about how successful the Fed had been in curbing inflation, Powell replied that the Central Bank is “very far” from its inflation goal. However, he did rebuff suggestions that the 2% target for inflation that the series of rate hikes are trying to achieve is not an “impossible dream” given the state of the “post-Pandemic global economy”.

In acknowledging that the Fed still has “some way to travel” to bring inflation under control, Powell did say that it makes sense that, going forward, it makes sense to moderate the pace of hikes.

It is unclear whether he favours smaller than the twenty-five basis point hikes that have been taking palace more recently or if a hike only every other meeting may be more suitable to give the economy further opportunities to catch up.

He also confirmed that given the current core rate of inflation, the FOMC considers it appropriate to raise interest rates further between now and the end of the year.

To achieve its goal of achieving its target of 2%, Powell believes that there is still a “long road to be travelled.

The chances of the economy falling into recession have lessened over the past few months and in predicting what is likely to take place over the rest of the year, Powell increased his expectations for GDP to 1%, up from 0.4% in March.

There will still be those who believe that the FOMC is “playing with fire” in continuing to hike rates but members of the FOMC believe that the economy is currently sufficiently resilient to withstand further hikes that it is only going to get stronger over time.

Powell’s remarks were not enough to supply support to the dollar. The index “gave back” most of the gains it had made so far this week. It fell to a low of 102.02, closing at 102.08.

EUR – Market Commentary

Banks likely to face tougher stress tests

In a speech made last week in Asia, the Managing Director of the International Monetary Fund, Kristalina Georgieva, spoke of her approval of the European Central Bank’s policy of continuous interest rate hikes as a way of reducing inflation given the extraordinary conditions that have prevailed since the end of the Pandemic.

Georgieva who is the successor to current ECB President, Christine Lagarde as MD of the IMF, believes that the Central Bank has been faced with little alternative given the high level of support it pumped into its economy during the Pandemic and the potentially calamitous effect of the Russian invasion of Ukraine.

“To attempt to reduce the core level of inflation from 6.1% to 2% is an enormous task, and it will take a force of will from Governing Council to achieve such a goal”, Georgieva said.

Not only should monetary policy continue to be tightened in the coming months, but it should remain in restrictive territory for a considerable time.

Overall, the twenty countries that use the Euro will receive help from a period of higher interest rates even if it sends the region into a technical recession.

The invasion of Ukraine sent energy and grain prices to significantly higher levels. Although those pressures have abated the support that was provided during the Pandemic is still “washing through” the system.

Eurozone Banks still provide a degree of concern to ECB regulators and the stress tests that they all face are expected to be tightened yet again in the face of the growing influence of “shadow banks”.

Shadow Banks, like funds and insurance companies, are now as heavily regulated as commercial and investment banks and present a real danger to the stability of the Eurozone’s financial system according to Andrea Enria, the Chair of the European Banking Authority.

In the medium term, the euro is expected to gain support from the ECB’s continued hawkishness. It is likely that a rate hike will happen in September as Pierre Wunsch, the Governor of the Belgian Central Bank spoke yesterday of his expectation that hikes will go on beyond September.

The Euro rose to a high of 1.0990 yesterday and closed at 1.0986.

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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.