Recession already started
23rd September: Highlights
- Bank of England hikes rates by fifty basis points
- Fed stokes fears of consequences of even tighter monetary policy
- Consumer confidence collapses
GBP – Bank of England gives downbeat appraisal of the economy
He went on to hint at a further increase in rates this time by seventy-five basis points at the next meeting of the Monetary Policy Committee. The rise in rates alone will have added fifty pounds to the average tracker mortgage.
Meanwhile, the Government was hard at work on a programme of tax cuts. They announced the reversal of the increase in National Insurance contributions which was only brought in in the Spring, today the Chancellor will announce further tax cuts in his mini budget.
Fears are rising regarding how the cuts in tax will be paid for. Bailey believes that the economy may already be in recession, so it is difficult to see how the Government can rely upon increased revenues to fund the cuts in taxation that are expected to be announced today.
In his weekly meeting with Andrew Bailey, the Chancellor, Kwasi Kwarteng, instructed him to get a grip on inflation despite the Bank having hiked rates for the seventh meeting in a row. That appears to have given the Bank the green light to announce a bumper hike of seventy-five basis points.
Criticism of the Central Bank’s policy of little and often since they have had little material effect on inflation.
Speculation has begun about the level rates will eventually reach with most economists believing they will double from the current level of 2.25%. However, there are some who see 5%.
With inflation forecast to continue to rise well into 2023, the cost of living shows no sign of abating and concerns of a balance of payments crisis being created by a government hell-bent on growing the economy out of a recession it is going to be a difficult winter for consumers who face a substantial rise in energy bills next month despite the Government’s support package.
Sterling steadied yesterday as the continued tightening of monetary policy provided a degree of support. It reached a high of 1.1364. but fell back to close at 1.1259 as fears regarding how deep a recession the country faces emboldened sellers.
USD – Rising shelter index, a major component of core CPI
Some observers have labelled the Central Bank’s current policy desperate and reckless as they continue to fight rampant inflationary pressures.
This is the most aggressive rate hike cycle seen since 1981 stoking fears that an unpalatable recession will grip the economy through most of 2023. There are fears that the Democrats will suffer significant losses at the midterm elections, which take place next month, which will be impossible to recover from before the 2024 Presidential Election.
The housing market is in a slump, but that is a good thing, according to the Fed. Chairman Jerome Powell. An overheating housing market was one of the more significant reasons for inflation getting close to out of control.
The rising price of houses is not part of CPI. However, shelter costs are, and they contributed more than 30% of core inflation in the second quarter. As the housing market rises, so does the cost of renting. As the price of oil and other commodities moderate, shelter costs, which lag the inflation rate, have risen.
According to some observers, seventy-five has become the new twenty-five as the Fed becomes increasingly frantic in its efforts to tame rising inflation.
It is expected that rates will rise by at least a further hundred and twenty-five basis points over the next two FOMC meetings. How that will be spread is by no means certain, although the Central Bank appears to have done away with twenty-five-point hikes which have negligible effect.
The weekly data for jobless claims showed an increase when it was released yesterday. 213k new claims were made in the latest week, up from 208k. The four-week average fell, possibly for the last time in a while.
The dollar benefitted from the Fed tightening of monetary policy and a fall in risk appetite following hawkish comments from the Russian President. The dollar index rose to a high of 111.87 but fell back to close at 111.27.
EUR – Lagarde expects rates to climb above the neutral level
It had been forecast to improve slightly to -25.5, but the impact of the cost-of-living crisis coupled with a significant slowdown in the economy had a far greater bearing than had been anticipated.
The European Central Bank is expected to hike interest rates well above the neutral rate to dampen demand.
This is expected to have an impact on an economy that is already on the brink of recession. It is likely that the Bank will take note of the effect of rate hikes in the UK and U.S. and plump for the shock and awe tactic adopted by the Federal Reserve, where rates are increased in larger increments.
Although Christine Lagarde is known to be against another seventy-five-point hike, it is felt that the sooner rates become restrictive, the sooner they will have a material effect on inflation.
The most recent hike has been labelled as frontloading, but as in the case of the Fed, the ECB is coming around to the tactic of sooner and larger to curb inflation, having seen the Bank of England hike in small increments at seven consecutive meetings.
The delayed introduction of the ECB’s backstop project to counter unwarranted, disorderly market dynamics continues to have difficulty getting across the finishing line.
The question over what is unwarranted and what is disorderly is exercising the legal minds of the European Union. Markets are already disorderly and unwarranted is a matter of opinion. The last thing the ECB wants is for a measure to be announced that is required to be immediately put into operation.
In Italy, the front-runner to win the Election Georgia Meloni has told her countrymen not to be afraid to be Italian despite the mounting economic worries that are facing the country. They have introduced a novel method of boosting the economy.
It is called caffe sesposo. In essence, you buy two coffees but only drink one, and the practice is spreading to other consumer products.
The euro continues to weaken as risk appetite wanes, falling to a low of 0.9807 and closing at 0.9830. There appears to be a degree of support around this level, but it is unlikely to hold if the single currency sees a sustained bout of selling pressure.
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.