- A pause is now almost certain
- Economy is showing more than resilience
- ECB hold rates unchanged
It is too late for “radical moves” to stimulate growth
Bank of England Governor, Andrew Bailey has already said that he expects a significant fall in the rate of inflation when the October CPI data is released and this, coupled with signs that the employment market is showing signs of deterioration, makes a further pause in the cycle of interest rate hikes almost certain.
In fact, it also means that the interest rate may have peaked at 5.25%.
While rates are not particularly high in a historical context, the base rate is at its highest since the 2008 financial crisis.
The Chancellor faces a tough time delivering a budget that provides a platform for the Government to have any chance of winning the General Election that is due to be held next year.
It is now considered too late for any radical new proposals to be delivered since it would take too long for them to take effect and would in any event be considered little more than inducements to voters.
Jeremy Hunt also faces a potential backlash from his own back bench MPs, many of whom only won their seats in the 2019 election which saw the “red wall” of Labour voters change sides following Boris Johnson’s promises of a levelling up, which has provided anything like the investment that was pledged.
Early in the New Year, it is probable that the Government will take on the characteristics of a “lame duck”, seen as little more than performing a caretaking role in the run-up to the election.
Given the results of the two by-election that were held recently and with the prospect of another potentially humiliating vote with another Government MP facing suspension and a possible forced resignation, Rishi Sunak is facing a tough time mounting a credible campaign.
The most positive outcome from a Budget that is likely to provide little more than cosmetic, sensible changes, is help for first time buyers. This may supply some impetus to a housing market that is “sagging” but is unlikely to be the kind of policy change that will ignite a flame under the Conservative Party’s campaign, which looks doomed.
The pound was stable versus the dollar yesterday making moderate gains. It rose to a high of 1.2139 and closed at 1.2129.
Versus the Euro, it rallied initially on the news that the ECB had held interest rates unchanged, reaching a high of 1.1506, but as expectations that the Bank of England will also announce a pause sank in, it drifted lower to close at 1.1481.
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Growth was the fastest for two years
However, the data was far stranger than the market had been expecting, showing that GDP grew at 4.9%.
This went some way to explaining Jerome Powell’s recent comments about the resilience of the U.S. consumer and his continued hawkish belief that the economy can withstand a further rise in short term interest rates, whether that takes place at next week’s FOMC meeting or not.
The general view is that headline inflation will see a significant fall in October after the disappointing outcome for September.
The rise in GDP growth, up from 2.1% in the second quarter, came from strong consumer spending, a build-up in inventories, residential investment and government spending.
A spokesperson for the White House labelled the data “stellar”.
While the figures will be revised in the coming months, they showed that the economy grew at its fastest rate since the fourth quarter of 2021.
President Biden reiterated Jerome Powell’s recent comment that it is a mistake to “bet against” the resilience of the U.S. consumer.
Donald Trump, who is still the front-runner for the Republican nomination for the 2024 Presidential Election, despite his present legal issues, who has been critical of Biden’s economic record, did not comment on the data.
Next week will deliver a potentially stellar week for the economy, with a “perfect storm of an FOMC meeting, the October employment report and data on output from ISM.
The dollar index is well-supported despite the potential for another pause in the cycle of interest rate hikes.
A lot will depend going forward on the new jobs created data.
It is considered unlikely that the economy will have added anything close to September’s figure of 336k new jobs, but a revision lower of that number and a disappointing headline NFP figure for October may see another correction.
Yesterday, the dollar index climbed to a high of 106.81 but ran out of steam and closed at 106.61.
Economy, Israel and Italy all add to rates being on hold
In her press conference following the announcement, ECB president, Christine Lagarde confirmed that the view of the meeting is that rates are at a level that is sufficiently restrictive upon demand and by remaining elevated for a “significant time” will act to bring headline inflation back close to the Central Bank’s target of 2%.
Lagarde’s comments appear to push back even further the market’s expectations that the first cut in rates may take place in the second quarter given the output data that has been released recently.
Lagarde warned that the ongoing conflicts in the Middle East and Ukraine risk damaging the global economy and pushing up energy prices. The eurozone economy is sensitive to changes in energy supply as was seen last Autumn and Winter.
After a cycle of ten consecutive hikes, Lagarde made no mention of this being a pause in the ECB’s actions. She did however express her concerns about the effect of the conflicts on consumer confidence that has been falling constantly for the past two quarters.
She went on to say that she and her colleagues will remain vigilant about the effect of “economic factors” on the consumer.
The end of the cycle of rate hikes will supply some relief for the more dovish members of the Eurozone, in Particular Italy, which has just embarked on a huge mission to inflate its economy.
Lagarde said that it is “absolutely premature” to be considering rate cuts. She and her colleagues on the Governing Council were well aware of the likely questions that would be asked as soon as the rate hike cycle ended.
Although the region is facing “recession-like” conditions, inflation is still the most important consideration and with rates remaining elevated it is expected that that fight will be won.
The Euro reacted negatively to the initial announcement, but it quickly became clear that the cycle of rate hikes from G7 Central Banks was ending, and it recovered its poise.
It reached a low of 1.0522 and closed at 1.0562.
Have a great day!
Exchange rate movements:
26 Oct - 27 Oct 2023
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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.