24 April 2023: Doubts remain about rate increases


  • Flash PMIs show the strongest growth in a year
  • Plenty of doubt about the strength of the economy
  • Eurozone recovering from high energy prices
GBP – Market Commentary

MPC accused of too much groupthink

The modest return to growth signalled by Q1 GDP was bolstered by the release of flash PMI data on Friday which showed the largest increase in almost a year.

The UK economy is heavily tilted towards services output which makes up about 80% of total output.

In April services output rose to a level of 54.9 after a march figure of 52.9, while manufacturing continued to languish falling to 46.6 from 47.9 last month.

Inflationary pressures continue to wane in manufacturing, but demand for services will see prices continue to rise in that sector.

Demand for financial services was one of the main contributors to overall services growth. One issue is that financial services are often susceptible to rising interest rates.

This highlights the pressure that will be on the MPC when it meets next month to seriously consider whether controlling inflation, which is set to fall of its own accord in the coming months, is more important than risking a recession later this year or early next.

While it currently seems unlikely that the current Government will be reelected in the election that is due to take place by January 2025, there would seem to be no chance at all if the country is in recession.

While both manufacturing and business services output are both struggling, overall the economy is showing strong resilience and better momentum than has been forecast by outside agencies than was previously predicted.

The resilience of the economy makes a rate hike on May 11th look like a done deal. The PMI data is consistent with a quarterly rise of 0.4%, building on a 0.2% rise seen in Q1.

Last week, Sterling broke a five-week sequence of higher closes by falling closing at 1.2412 having recovered from a low of 1.2344. In the end it closed just five pips lower than the previous week.

This week, there is no tier one economic data due for release, with only house prices from Halifax today and Nationwide on Friday bookending the week.

With little new information to work with, the market is likely to remain convinced that the MPC will hike rates in May providing a degree of support to the currency.

USD – Market Commentary

Fed likely to hike one more time

The Major investment banks on Wall Street do not agree about the medium term strength, or otherwise of the U.S. economy.

They agree on very little with on the one side Jerome Powell being labelled the devil incarnate for driving the economy towards a certain recession later this year, while on the other being called a hero for remaining steadfast in tackling inflation which looked out of control particularly in the third quarter of last year.

J.P Morgan and Morgan Stanley have a vastly different view of the fourth quarter of this year. Jamie Dimon of J.P. Morgan sees storm clouds brewing, while Morgan Stanley’s James Gorman sees the current issues facing the financial sector as not remotely like 2008 at all.

It is interesting to note that both banks see the consumer as being reasonably resilient and inflation as now being on a downward path.

It is in the actions of the Federal Reserve where the two differ most. Having hiked rates at every meeting since March last year, it may very well be the time for a pause which is very likely to happen either in May or June, but the burning question is, since short-term rates have gone from almost zero to their current level of 4.75% is a hike next month to 5% anything more than symbolic.

There was a time not too long ago, when some FOMC members were predicting a high of 6%, but they are now unlikely to reach above 5%.

Recent economic data has been generally weak but not overly so. The March employment report still showed that new jobs are being created, although not at the rate they were in the early part of this year. That suits the Fed., and before they meet again, we will have seen the April report. This is expected to continue the recent trend.

J.P. Morgan in the year-end report predicted that job creation could be negative by now if the Fed continued to hike.

That has been proved spectacularly wrong.

Last week, the dollar index clung on to the bottom of its recent range and managed to show a gain, albeit marginal, on the week. It closed at 101.72 having climbed as high as 102.23 earlier.

This week will see data for house prices, new home sales and retail sales published, as well as durable goods orders and the first cut of Q1 GDP.

The economy is expected to have grown at 2% between January and March, a little lower than in Q4 2022.

EUR – Market Commentary

Lagarde still sees a way to go in inflation fight

While she sees the economy now on a firmer footing than it was late last year, ECB President Christine Lagarde still predicts a long way to go in the fight against inflation.

There is little doubt that the ECB has been both consistent and predictable in its fight against rising prices, but it continues to be stymied by two significant factors.

The first is a lack of any region wide fiscal policy which allows national governments to pump liquidity into their individual economies to fight particular issues.

It is ironic that the German Government saw fit to provide Eur 200 billion in aid to its population to help fight higher energy prices, a move that was clearly inflationary then voted for a hike in interest rates that afflicted the entire Eurozone.

The virtual abandonment of the growth and stability pact, which demanded that budget deficits be kept below 3% of GDP has also been counter-intuitive to the ECB’s effort to bring inflation under control.

Belgium, a member of the frugal five, should have its membership revoked after allowing its budget deficit balloon to 5.1% of GDP, the current highest in the Eurozone.

The second factor is the war in Ukraine., The European Union has struggled not to become embroiled in the conflict which has seen which drone both energy and food prices to extreme levels.

While the energy price has since receded, due in no small part to Brussels efforts to diversify its energy providers, food price inflation is a significant factor in the overall inflation rate not falling as quickly as the ECB would like or expect.

There is some real optimism being seen at the moment about the overall prospects for the Eurozone economy which is now expected to avoid a recession in the next fifteen months or so.

It is likely that some members, notably Germany, will expecting some economic contraction, but even that is predicted to be minimal.

Last week, the single currency was virtually unchanged as the market awaits fresh drivers. It opened at 1.0991 and closed at 1.0986.

This week, the IFO report on German economic confidence will be published along with data on consumer and business confidence for the entire Eurozone.

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.