28 September  2020: Negative rates on MPC menu

Negative rates on MPC menu

28th September : Highlights

  • Warnings of job losses despite support
  • Trump promises to end dependence on China
  • Eurozone recovery threatened by surging Covid cases

Momentum slowing even before possible lockdown

Rishi Sunak the Chancellor of the Exchequer made the first of a series of important decisions last week that could determine not just the Country’s recovery from the Covid-19 pandemic but how it grows once infections are truly under control.

Having announced a series of measures to support those facing the threat of losing their jobs by supporting wages and continuing the reduction of VAT he is faced with another round of consideration of how it will all be paid for that will exercise his mind.

The cost of the new measures have not, as yet, been officially announced but by postponing the Budget which was due to be presented to Parliament in November he has bought a little breathing space and the opportunity to consider the Treasury’s options should the situation worsen.

The next meeting of the Bank of England’s Monetary Policy Committee will now almost certainly be considering taking interest rates negative. The ramifications of such a move are the subject of intense scrutiny since the makeup of the UK Money Markets differs structurally from either the Eurozone or Japan both of which already have negative rates.

In simple terms banks will be charged for placing surplus funds with the Central Bank and that should encourage lending. Of course, that will hit savers who will find themselves without a return on their deposits.

The upside of that is that savers are encouraged to spend which has the short-term benefit of increasing retail sales.

There is a risk of deflation attached as prices will start to fall as goods and services become cheaper. There is also a danger that consumers will hang on and look to make purchases when prices have fallen further. All in all, it leaves a lot for the Bank’s economic advisors to consider

This week, the final cut of Q2 GDP will be released. It is expected that the economy will have contracted at a rate of 21.7% compared with a year earlier.

Data for manufacturing output and house prices will be released. They will both add to the entire matrix of discussion about just how the economy is going to recover.

Last week, the pound fell to a low of 1.2675 versus a recovering dollar. There is an area of congestion just below its weekly close of 1.2746 which may provide a little support.

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U.S.’ biggest import to be manufacturing capability

A plethora of regional Fed. Presidents will be speaking in the first half of the week each calling, in their own words, for Congress to get its act together over support for small business and the unemployed.

Jerome Powell has made the agreement of a fiscal support package a major plank of his demands for a recovery for the economy in the shortest possible time.

The availability of a mass use vaccine is the other major requirement.

The politicization of the package where the Democrats are looking to endorse their social justice credentials while the Republicans see the deal as an opportunity to squeeze concessions from Congress is considered the major impediment.

The employment report that will be released on Friday is possibly the most important since lockdown began. This is the final report before the election.

With the support package having expired on 31st July, there will have been a degree of legacy support through August. However, through September the unemployed and small businesses will have been trying to cope themselves with limited support at the state level.

Weekly jobless claims have not been falling as had been promised. The data for the w/e 18/9 showed that continuing claims fell by just 1.3% as new claims rose by 4k from 866k to 870k.

The press and media have been trying to inject a little excitement into the election race but while it remains low key, Joe Biden, the Democrat Candidate will be considered favourite. Part of Trump’s campaign strategy is to see the return of manufacturing capacity to the U.S. reducing the country’s reliance on Beijing.

The first presidential debate will take place tomorrow. Trump will try to hog the spotlight but most attention will be on Biden’s performance.

Last week. The dollar staged something of a recovery. While there was no single reason for the rally which reached a high of 94.74, those paid to find a reason called it a fall in risk appetite.

It was more likely simply the ebb and flow of the market, with the dollar becoming cheap and its main constituents unable to overcome crucial resistance.

The employment report will, naturally, be the high point of the week. The latest expectation (guess) is for 875k new jobs to have been created, following August’s 1,375k.

The unemployment rate will remain around 8.5% which will represent another missed target for the Administration.

The dollar closed at 94.58, above the weekly low of 94.34 seen in the week of July 24th.This may signal a continued rally to test the 96.18 high.

Hopeful data slammed by lower retail sales and activity fall

The Eurozone economy is difficult enough to fathom in normal times. The fact that the market continues to place more credence on individual nations performance than the whole region speaks of the inability of Brussels to drive a united front.

The unwieldy nature of the Governing Council of the ECB is a prime example. Each Eurozone Member’s Central Bank Head is a member, giving the impression that none trust a decision made without their presence. This lack of a shared national feeling is and will continue to limit progress at times such as we are seeing now.

The rise in cases of Covid-19 is increasing exponentially, although France and Spain the epicentres of the cases are doing all they can to limit the spread.

The concerns over another total lockdown are hitting confidence hard. The improvement that was being seen in activity was completely severed last week and consumers are beginning to stockpile again while shunning most other non-essentials.

Most economic stimulus continues to be provided on a country by country basis which adds to the feeling of a two-tier system.

The longer-term effect of this will be to add to the fracture that was beginning to manifest itself even before the Pandemic hit. Germany, France, and Italy have recently announced further stimulus to their economies with Brussels ratio rules unofficially suspended.

If there is a surge of cases in countries that are less able financially to support their economies, it is unclear how any Pandemic Relief Funding will be provided.

Last week the single currency retreated further from the 1.20 level versus the dollar. It reached a low of 1.1612. A combination of a stronger dollar and concerns over the spread of new infections continue to drive it towards lows seen in late July.

This week, business and consumer confidence reports will be released. These are unlikely to present a single picture with consumers unlikely to have seen much improvement while industrial sentiment and the business climate should have improved a little.

The euro starts the week at 1.1642 and will remain reactive to the dollar as we head into the payrolls data at the end of the week.

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.”