Beyond Currency

The headline rate of inflation fell to 7.9% in June, the lowest it has been in more than a year. Inflation had been predicted to fall from the rate of 8.7% seen in May to 8.2%.

The market immediately divested itself of long Sterling positions, believing that the fall in the rate of inflation means that the Bank of England is less likely to feel the need to add a further fifty basis points to the base rate of interest.

While this is one scenario, the Bank may also consider that having seen the effect of a larger-than-expected hike last month, they may feel empowered to “repeat the dose.”

The Chancellor welcomed the news, saying that the Government understands that high price increases are still a huge worry for households and businesses.

The fall in the rate of inflation has seen forecasts for the peak in the base rate drop from 6% to 5.75%. It is going to be difficult to predict the further seventy-five basis points that are predicted to be added will be in the twenty-five-point hikes or another fifty, followed by twenty-five a little later in the year.

Beyond Currency Market Commentary:

Aims to provide deep insights into the political and economic events worldwide that can cause currencies to change and how this can affect your FX Exposure.

Rishi Sunak has invited business leaders from several sectors of commerce to join a new initiative he has started to “turbocharge” economic growth. CEOs from companies such as AstraZeneca, Sainsbury, and BAE Systems are among those joining the Business Council.

The fourteen members of the council are considered leaders in their field and represent some of the country’s largest employers.

Sunak was “at pains” to say that this will not be just another talking shop, and the issues that are raised, and the proposals that are considered will be fed directly into Government policy.

The Prime Minister is keen to demonstrate that there is room for a joint initiative between the public and private sectors.

The CEO of BAE Systems, Charles Woodburn, spoke of his belief that now more than ever, it is important that the Government work closely with industry to ensure that every opportunity is carefully considered to drive economic prosperity forward.

Beyond Currency Market Commentary:

Aims to provide deep insights into the political and economic events worldwide that can cause currencies to change and how this can affect your FX Exposure.

In times of high inflation, the delicate balance between fiscal and monetary policy needs to be tightly controlled because if they become unbalanced, it can prolong the “economic agony” being experienced by the country.

It was not very long ago that the Government was saying that public sector pay awards above 5% would add to inflation and cause the Bank of England to tighten monetary policy as a pay/price spiral developed.

In the past few days, pay increases of between five and seven per cent have been announced while the Bank of England recently raised interest rates by fifty basis points, in a departure from the twenty-five that had become the “norm” over the past eighteen months or so.

The level of Government borrowing is already at 100% of GDP and is set to rise even further in the coming years as high-interest rates increase the debt servicing burden while the government is still trying to pay for the support that was provided during the Pandemic.

Add to that an ageing population where there are fewer tax receipts and the “triple lock” on the state pension where an annual increase guarantees that pensions will not lose value in real terms, and the dilemma facing the treasury becomes apparent.

Beyond Currency Market Commentary:

Aims to provide deep insights into the political and economic events worldwide that can cause currencies to change and how this can affect your FX Exposure.

Andrew Bailey has, rightly or wrongly, become the face of unacceptable high inflation.

In his annual Mansion Speech at a dinner hosted by the Lord Mayor of London, Bailey spoke of the resilience of the UK economy and the fact that, in his opinion, it can stand further hikes in interest rates.

The Bank surprised the Market last month by raising interest rates by fifty basis points as inflation remains stubbornly high.

Bailey believes that since food inflation has peaked that the overall rate of inflation will fall quickly, and Rishi Sunak’s pledge to halve the rate of inflation by the end of the year remains attainable.

Since December 2021, interest rates have been hiked from 0.1% to their current level of 5%, yet they still don’t yet appear to have reached a level at which they are restricting demand which remains strong.

Beyond Currency Market Commentary:

Aims to provide deep insights into the political and economic events worldwide that can cause currencies to change and how this can affect your FX Exposure.

The Bank of England has been hiking interest rates for almost twenty months to reduce inflation which rose into double figures earlier this year. They have been completely transparent about their intentions, with the Governor providing the market with a reasonable amount of advance guidance.

The Bank’s actions have signalled the end of an era of low inflation and low interest rates, which stretches back to the financial crisis of 2008.

Over roughly the same period, the mortgage market in the UK has evolved to such an extent that now, around 80% of home loans are fixed. It is common for loans to be fixed for a period of two or five and occasionally ten.

As short-term interest rates have risen over the past twenty months or so, borrowers have been insulated, that is until their loans are reset using the current higher interest rates, and now they face seeing their repayments often double or, in extreme cases, treble.

This is concerning and, in many cases, catastrophic, but who is really to blame?

Beyond Currency Market Commentary:

Aims to provide deep insights into the political and economic events worldwide that can cause currencies to change and how this can affect your FX Exposure.

Catherine Mann is the most hawkish of the independent members of the MPC. She has been voicing her concerns about the effect of high inflation on the economy for some time and voted for the fifty-basis point hike in interest rates at the most recent meeting of the rate-setting committee.

In a recent speech, she spoke of her belief that inflation is becoming embedded in the economy and very soon the Bank of England will be powerless to eradicate it using “conventional” methods.

She agrees with the Governor that there is unambiguous evidence that firms are using the current crisis to maintain, and in some cases, increase their margins. She believes such practices are a prime cause of how inflation will become a “fact of life” again, and must be dealt with as a matter of priority,

It is easy to see obvious examples, like the forecourt price of fuel, but beneath the surface, the practice is becoming so widespread that it is becoming easier to name the sectors of the economy where it is not happening.

Last week the Treasury sold £4bn in Government debt at a price that equated to 5.6% per annum. That is higher than the cost at the height of the Liz Truss inspired crisis that threatened to swamp the economy last Autumn.

Beyond Currency Market Commentary:

Aims to provide deep insights into the political and economic events worldwide that can cause currencies to change and how this can affect your FX Exposure.

The Government, already a considerable distance behind in opinion polls, has decided that it won't try to “bribe” the electorate by cutting taxes in the run-up to the General election that has to take place before January 2025.

The Chancellor of the Exchequer, Jeremy Hunt, has admitted that the current economic conditions in the country make any pre-election cuts in his Autumn statement “unlikely.”

Following Rishi Sunak’s pledge to halve the rate of inflation by the end of the year to around 5%, Hunt will not add billions to demand while the Bank of England is tightening monetary policy to reduce it.

Hunt has already said that achieving the Cabinet pledge on inflation will be difficult to achieve.

The Conservative Party, which has appeared to be on the brink of civil war constantly since David Cameron’s departure as Prime Minister seven years ago, will need to use the summer recess of Parliament to regroup and try to find a way to eat into Labour’s lead in the polls.

Beyond Currency Market Commentary:

Aims to provide deep insights into the political and economic events worldwide that can cause currencies to change and how this can affect your FX Exposure.

The Governor of the Bank of England spoke yesterday of the need for regulators to act against retailers who are taking advantage of the current situation to keep the price of their products high to protect their margins and increase their bottom line.

Andrew Bailey’s comments come after it was revealed that drivers had paid over a billion pounds more for fuel at supermarkets over the past year as retailers tried to increase their profit margins.

Jeremy Hunt held talks recently with a wide range of retail bodies to discuss ways in which those struggling with the cost of living are not being unfairly targeted.

There have been complaints recently that two highly emotive sectors are taking advantage of the situation. The price of fuel is one, while banks are also being accused of raising rates to borrowers as soon as, or in some cases before, official rates are increased, while the rates paid to savers are still low.

Bailey believes that the headline rate of inflation that remained at 8.7% will begin to fall rapidly towards the Bank’s 2% target towards the end of the year.

Beyond Currency Market Commentary:

Aims to provide deep insights into the political and economic events worldwide that can cause currencies to change and how this can affect your FX Exposure.

The risk of a hard landing for the economy has been heightened by the recent actions of the MPC in hiking interest rates by fifty basis points. Economists at the OECD believe that the base rate of interest could now reach 7% as the Bank of England appears determined to stamp down hard on the rate of inflation, which has remained stubbornly high.

It is expected that the base rate will rise to 6% by the end of the year, and depending upon the path of inflation in the New Year, they are able to envisage a scenario where rates now touch 7%.

The rise in interest rates throughout the first and second quarters has not had the effect of dampening demand as they come closer to restrictive territory.

The “neutral rate” has become something of a “moveable feast” with no one at the Bank prepared to commit. With the highest headline rate of inflation in the G7, the possibility of a further fifty basis points being added and either the next MPC meeting or the one following the likelihood of there being a hard landing where the economy falls into a recession has increased.

Neither Jeremy Hunt nor Andrew Bailey appears to be particularly perturbed by the prospect of a mild recession, although both have been at pains to say that it is not their goal to see the economy contract as a method of containing rising prices.

Beyond Currency Market Commentary:

Aims to provide deep insights into the political and economic events worldwide that can cause currencies to change and how this can affect your FX Exposure.

There was some good news and some bad for the Bank of England and the economy yesterday.

The average interest rate on a five-year fixed mortgage reached 6% as the home loan market continued to react to the prospect of the Bank adding further hikes to the base rate. This will reverberate throughout the entire housing market and the wider economy.

The good news came from J.P. Morgan, who published a report in which it exonerated the Bank from the blame for the increases that have taken place over the past eighteen months.

The U.S. Bank which has its European headquarters in the City, argued it had “little or no choice” but to continually raise interest rates since a failure to do so would have led to a deeper downturn, even though it believes that the country faces a mild recession in the Autumn/Winter.

It is hard to blame the Bank of England for “simply doing its job,” the report went on to say, particularly since neither politicians nor analysts have not offered any viable alternatives.

Beyond Currency Market Commentary:

Aims to provide deep insights into the political and economic events worldwide that can cause currencies to change and how this can affect your FX Exposure.