8 April 2024: Tax cuts are being swallowed up


  • It’s time for the Government to “big up” the economic recovery
  • Jobs data weighs on an early rate cut
  • The inflation may not be enough for the ECB
GBP – Market Commentary

Output is beginning to move significantly into expansion

The Government needs to concentrate on the step-up in economic performance since the start of the year, rather than talking about tax cuts that are being swallowed up by the continued “stickiness” of inflation.

If the Conservative Party is to make a meaningful contest of the upcoming election and make ground in the opinion polls, they need to not only promote how the economy is recovering from the twin effects of the Pandemic and the cost of living crisis, neither of which any G7 nation was immune from, and challenge the Opposition’s proposals for future growth.

Economic output has recovered well from the mild recession that took place in the last quarter of 2023. Growth of 0.2% was achieved in January according to preliminary data, which may well be revised upwards. Data for February will be published later this week, and it is expected to show another increase.

Services output is still strong, while manufacturing is experiencing an expansion for the first time in 20 months.

Employment is still growing, and the number of new claimants stays reasonably stable.

It is predicted that Industrial Production will be flat when it is published on Friday, it shrunk by 0.2% in January.

There will be a boost to the economy from increases in the state pension, certain benefits, and the minimum wage, all of which will increase several sectors’ spending power.

There was also a significant fall in the average cost of electricity. This will ease the pressure on household budgets.

As inflation continues to fall, the Bank of England is expected to agree on a series of interest rate cuts, possibly beginning at the meeting that will take place in June. There is no consensus in the City regarding how many cuts there will be, or the size of individual cuts.

There will likely be up to one hundred basis points of cuts, although there has been no “official” confirmation of this, and until the cycle begins, Andrew Bailey will want to keep “his powder dry” since it is hard to see in advance what the effect will be.

Sterling is still fairly stable, within a 1.28/1.26 range versus the dollar. It closed at 1.2638 having gained 100 points from the low.

Against the Euro, it is a similar story, although it lost ground last week. It fell to a low of 1.1645 and closed at 1.1661.

The next significant move will only take place when the picture concerning interest rates becomes clearer.

USD – Market Commentary

The dollar is on the launch pad

Several members of the FOMC took the opportunity last week to share their views on the economy, monetary policy, and the prospect of a series of interest rate cuts this year.

There has been a slight hardening of attitudes from the various regional Fed Presidents, with none displaying what may be considered dovish tendencies.

The market has decided that any cuts in interest rates will be delayed until September at the earliest, and there is even some speculation that no cuts may be made this year.

That is the extreme view of Neel Kashkari, the President of the Minneapolis Fed. His comments are usually both considered and moderate, but he is concerned that the rate of fall in inflation is slowing and could stall altogether.

The President of the Atlanta Fed, Raphael Bostic, believes that there may only be one cut this year and that will take place in the fourth quarter.

An alternative view was provided by Cleveland Fed President Loretta Mester, who believes that the Fed may be getting close to the level of confidence it needs to begin cutting rates “in the next few months”. Although that is a typically vague response, at least it shows that there is a conversation to be had.

Jerome Powell has been cautious about when rate cuts will begin since the Fed agreed to pause its cycle of rate cuts last year. His position has remained constant, and it is clear that he has a series of triggers in mind that will lead to rates being cut.

The March Employment Report was published on Friday, and it showed that the economy continues to be adding jobs at a level that defies the relatively high level of interest rates. Wages are still rising at a faster rate than inflation and this will be confirmed when the latest data is released on Wednesday.

The consensus in the market is that headline inflation will have risen to 3.4% up from 3.2% in February.

The minutes of the most recent FOMC meeting will be published on Wednesday. Since there have been no significant changes to the state of the economy since the meeting took place, the minutes will have more relevance to the current situation than has been the case since the start of the year.

The dollar index is in an upward trend, but traders would like some hard evidence of the Fed’s hawkish outlook before committing fully to establishing long positions.

Last week, the index tested the 105 level but failed to find any further momentum and fell back to close at 104.28.

EUR – Market Commentary

This week’s ECB meeting will serve as an appetizer

The “flowers of new-found optimism” are beginning to show their heads above the “harsh winter landscape” as the Eurozone economy begins to show signs that it is finally finding some positive output and growth.

Although manufacturing output in both Germany and the wider Eurozone is still a long way from an expansive state, both showed that they may have reached their nadir.

With inflation continuing to fall, even the most hawkish members of the ECB’s Governing Council are seemingly prepared for rates to be cut. It is likely that were there to be more accurate information available for the fall in the level of wage increases, there could easily be a cut in rates agreed upon at the meeting that takes place this week.

Instead, Christine Lagarde is expected to “prime” the market for a cut at the June meeting, when the Q1 wage data will have been released.

While manufacturing output is still “bumping along the bottom”, services output is well into a period of expansion. This has much to do with how many Eurozone members are embracing the change in the geopolitical outlook and moving away from energy-hungry heavy industry, finally accepting that they cannot compete with the efficiency and new-found quality of Chinese products.

With energy prices now beginning to fall the outmoded practices that are holding back the German economy will need to be seriously reviewed, although there will be concerns that just as the country begins to emerge from recession, the Government may well introduce policies that see unemployment rise.

The headline rate of inflation fell more than expected for the second consecutive month in March, reaching 2.4%. The ECB is concerned that there may be some overhang from wage settlements that may see prices pick up again, particularly if they are fuelled by a cut in interest rates.

For that reason, this week’s meeting will provide a clear path to a rate cut at the June meeting.

The euro continues to defy gravity, with commercial demand for the single currency still strong. Inward investment is still weak, with investors wanting to be sure that the ECB is genuine in its desire to cut rates before fully committing to any further investment.

It rallied to a high of 1.0876 last week and closed at 1.0837 which was close to the middle of its range for the week.

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.