3 August 2022: SME output has fallen by 20%
Trade Deficit and Brexit

SME output has fallen by 20%

3rd August: Highlights

  • Insolvencies highest since 2009
  • Job openings are beginning to fall
  • Mortgage rates rising fast, slowing housing market growth

GBP – Fuel crisis has been a significant contributor

There are growing signs that the country is heading for a recession. Insolvencies are growing at a rate not seen since 2009, while output in the SME sector has fallen by 20%.

SME businesses are disproportionately affected by the fuel crisis, so this may be a temporary issue since forecourt petrol prices are beginning to fall.

There are the major supermarket chains driving a price war, and this should see headline inflation moderate. This will add another layer to the Bank of England’s interest rate decision, which will be announced at lunchtime tomorrow.

Andrew Bailey and his colleagues are split about whether a further 50 basis points is justified. So far in the current cycle, the Bank has been reactive to data and over the past month inflation has had less of an impact while globally, slowing economies have been making headlines.

The financial markets are still pricing in 50 basis points, but it is likely that Bailey will make this another dovish hike and provide advance guidance regarding the bank’s possible reaction to a slowing economy.

Stagflation has always been the worst possible scenario for an economy since it was considered that, once a country enters the spiral of a contracting economy and rising prices, it is difficult to exit.

Several think tanks have issued reports over the past few weeks which point to the country being in recession.

Since the current global move towards stagflation is due to an almost unique set of circumstances, it is plausible that the rest of G7 will take America’s lead by denying the accepted definition of a recession.

The Conservative party leadership race continues to move towards a conclusion. Liz Truss is now considered to be a firm favourite since her Thatcherite pronouncements chime with the Party’s membership.

There is an obvious sense of short-termism around the vote, with a candidate’s ability to win the next election more important than their policies towards solving the cost-of-living crisis and the economic slowdown.

The pound is struggling to break through firm resistance at 1.2260 and fell yesterday as geopolitical events drove risk appetite lower. Sterling fell to a low of 1.2159 versus the dollar, right on the line of support, and closed at 1.2172.

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USD – Recession unlikely to continue past end of next quarter

Data for job openings was released yesterday and showed that vacancies fell from 11.3 million in May to 10.6 million in June. This is the first indicator of what the market can expect from the non-farm payroll data, which is due for release on Friday.

It is also a first indication that the employment market, which has been red-hot recently, is beginning to cool. It is possible that the FOMC had advance guidance about employment at the time of its meeting last week, and this has led Jerome Powell to hint at a slowing of the Fed’s interest rate hikes.

Despite the market view that the Fed may be coming to the end of its cycle of rate hikes, San Francisco Fed President Mary Daly pushed back against that view. She commented that she and her colleagues on the FOMC are resolute and united in their goal of bringing inflation back to their target of 2%.

Daly was backed by the Presidents of the Cleveland and Chicago Feds, who may have been singing from the same hymn sheet.

These remarks led the market to reconsider its view that rate hikes would cease, and the central bank may consider cutting early in 2023.

The words of Daly and her colleagues push that equation further into the future, as the Fed continues to deal with issues that are in the now.

Another FOMC member, James Bullard, President of the St. Louis Fed, spoke yesterday of his belief that both the U.S. and Eurozone economies can still achieve a soft landing.

Avoiding a harsh recession is certainly possible in the U.S. while with serious issues piling up in Europe, such a comment appears extremely optimistic.

House Speaker Nancy Pelosi arrived in Taipei yesterday, and her visit to the breakaway Chinese Province of Taiwan brought a stinging response from Beijing, which commented that she is playing with fire. Her visit also prompted a show of force as twenty Chinese jet fighters entered Taiwan’s airspace.

Pelosi’s visit, which she says doesn’t conflict with White House policy, saw risk appetite in the financial markets fall.

This drove the dollar index to a high of 106.34, closing virtually on the day’s high.

The market is beginning to consider this week’s employment report, which is expected to see a fall in new jobs to around 250k.

EUR – Recession becoming a reality across the entire region

The Eurozone is in recession. Output from factories contracted in July. While the accepted two quarters definition of recession now looks outdated as it is up to countries or regions like the Eurozone to declare for themselves.

The ECB now accepts that recession is on its way, although this doesn’t mean they will alter their newly found belief that inflation rather than economic growth needs to be dealt with.

The ECB hung onto the view that supporting the economy for as long as it could, some would say too long, but now it faces a fight to lower inflation. Several banks have told their customers that the Central Bank isn’t going to win this fight by attacking demand since supply remains the most significant issue.

Gas imports from Russia continue to dwindle and while the availability of gas will hit the economy, the price will continue to keep inflation high.

No matter how many rates increase, it will not have any effect on gas prices. It may be that the fall in petrol prices may slow the rise in headline inflation, but it remains to be seen just how hawkish the Frugal Five are prepared to be.

They know that excessive rate hikes in the current environment will trash any hope the Eurozone has of a soft landing, but they may still see that as a necessary evil in order to defeat inflation.

Coupled with the fall in petrol prices, grain shipments are starting to flow following the agreement between Russia and Ukraine, which looks fragile at best.

Manufacturing output contracted for the second month is a row, although it did move from 49.6 to 49.8. This will be no cause for celebration, as it is expected that output will contract further before it begins to expand.

The single currency gave back most of its recent gains as global risk appetite fell. The euro fell to a low of 1.0163, closing at 1.0166. It remains in its recent range, and it is hard to imagine that the summer lull won’t last until the G7’s central banks make clear their intentions towards monetary policy.

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.”