4 July 2024: A stronger economy may delay a cut


  • Its D(ecision) Day
  • The labour market is slowing, but not enough for the Fed
  • Producer prices show that a long-term fall in inflation may be happening
GBP – Market Commentary

Labour’s first 100 days will be crucial

Will today mark a sea change in the fortunes of the United Kingdom?

With the Labour Party seemingly on course to gain a Supermajority in today’s General Election, that should be the electorate’s expectation. However, any real change is virtually impossible due to the “first past the post” electoral system.

Since 1997, when “New Labour” was invented by Tony Blair, sweeping him to power, the Party has become increasingly “middle of the road”.

Gone are the days of powerful trade unions holding a grip on the Party as Keir Starmer has modernized, apparently making Labour more electable. At the same time, the Conservatives have become exposed as the Party of sleaze, lies and untrustworthiness.

As ever, the truth is somewhere in the middle.

There is still a feeling that Starmer may not be able to control the left wing of the Party once he is in power, while the threat of the hard right as depicted by the rise in the support that is being seen all over the country by Nigel Farage’s Reform UK Party has given traditional Tory voters an alternative.

Both the main parties have pledged not to raise “headline taxes”, but as ever the devil is in the detail of their manifestos. Labour will withdraw the concession over VAT of private school fees, adding 20% to the amount that parents who strive to have aspirations for their children must find.

Labour answers that they have aspirations for all British children, and they are simply levelling the playing field and will use the extra revenue to hire thousands of additional teachers.

Early in the campaign, Rishi Sunak clashed with his opposite number over a “mythical” figure of two thousand pounds that will be added to every working family’s tax bill under Labour, and this has been a central theme of canvassing.

Meanwhile, the economy has begun to perform better, with inflation falling to reach the Bank of England’s two per cent target and growth recovering to be the strongest in the G7 over the first quarter of the year.

The Monetary Policy Committee is hesitating over a cut in the base rate of interest rate since several think tanks predict that the headline rate of inflation is expected to rise back to around 2.5% by the Autumn.

It all boils down to a matter of trust.

Can the Conservatives be trusted to “do better” if they are “miraculously” handed another term? while, can Labour be trusted not to revert to type and raise taxes on middle-income earners?

The pound was in reactive mode yesterday as the market reacted to events in the U.S. It rallied to a high of 1.2777 and closed at 1.2743. From its performance, it appears that the market is welcoming a change in Government, but the proof is in the pudding.

USD – Market Commentary

Keeping everyone happy is becoming a balancing act

Jerome Powell is still dedicated to keeping the status quo over monetary policy.

As the anniversary of the end of its cycle of interest rate increases approaches, the Fed Chairman can be considered to be marginally less hawkish about a continuation of the policy of no change in monetary policy.

The U.S. economy has confounded many observers this year, as it has continued to perform far better than they had imagined. It has been speculated that if the FOMC had voted for one or two more interest rate hikes, they would now be able to cut interest rates.

Without a doubt, each G7 Central Bank underestimated the inflationary effect of pumping vast amounts of fiscal stimulus into their respective economies and greater efforts should have been made to withdraw it by reducing the size of their balance sheets to back up the rigidity of monetary policy.

The employment market is beginning to cool, but the data that has been published so far this week is ambiguous at best.

Job openings are still high. The JOLTS data published on Tuesday showed little change from the eight million openings that has been the average for several months, while the challenger job cuts numbers a considerable fall from May’s figure.

Meanwhile, the ADP private sector jobs report showed that fewer jobs were created than expected.

As traders take a day off to celebrate Independence Day, they may reflect on what they expected from the headline non-farm payroll data due for publication tomorrow.

It has become a cliché to expect that this will be the number that marks the start of the slowdown in job creation and hourly earnings that will lead to a rate cut, but popular wisdom dictates that it must happen soon.

The minutes of the latest FOMC meeting were released last evening. They were dressed up in several “if buts and maybes” but the central message is still “steady as she goes” for a little longer.

It is rumoured that President Biden is “considering his position” as the Democrat candidate for the November Election in light of his obvious menstrual capacity issues. The Democrats face a challenge to find a replacement if he decides to stand down. One possible name that has emerged with the kudos to challenge Donald Trump is Michelle Obama.

The dollar index reacted badly to the fall in private sector jobs yesterday, falling to a low of 105.05 but rising back above its short-term support to close at 105.35.

EUR – Market Commentary

Lagarde doesn’t see the fiscal boost as creating inflation

Christine Lagarde does not buy into the “Taylor Swift effect” commenting that it is not just the American pop superstar’s recent concert tour that has boosted spending.

The odds against another cut in interest rates this month lengthened yesterday as Lagarde spoke of her view that the Central Bank needs more time to review the effect of last month’s cut.

The market had assumed that Lagarde’s comments in the run-up to the rate cut would be the first in a series of cuts since she has previously said that the Governing Council would be unlikely to sanction a single cut given its questionable effect on inflation.

Since inflation fell last month despite the rate cut, it had been thought that Lagarde would be amenable to another one, but she seems to be taking notice of the comments from more hawkish colleagues as well as recent political events.

Further evidence of a longer-term slowing down in inflationary pressures was yesterday’s release of producer prices.

This showed that factory gate prices, a general precursor of consumer prices, fell to their lowest level for eleven months.

Producer prices dropped 4.2% year-on-year in May, marking the 13th consecutive month of decline, Eurostat data reported.

Lagarde, speaking at the ECB’s retreat in Portugal, is determined to ensure that inflation is not about to reignite before she publicly confirms any further cuts, having painted herself into a corner over the June cut.

The latest purchasing managers indexes were published yesterday, and they portrayed an economy that needs not only a series of rate cuts but systemic change to its focus.

The rise in service output did not offset a significant fall in manufacturing and industrial activity. The Eurozone economy is still affected by the high cost of energy.

The composite index fell from a twelve-month high of 52.2 to 50.9, only marginally above the level which separates growth from contraction.

With the French election still commanding the attention of several investors, the euro reacted to the data from the U.S. It rallied to a high of 1.0816 but ran out of buyers and was unable to break resistance at 1.0820 and retreated to close at 1.0788

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.