13 June 2022: Rates to reach 13 year high

GBP – Bank of England to continue inflation battle

There have been two beneficiaries of the rise in fuel prices so far this year.

The first was the fuel companies, but they have received a demand for windfall tax from the Treasury.

The other is the Government itself.

Last November, when Rishi Sunak delivered his budget to parliament, his team of economists provided estimates on what the average price of various forms of energy would be and based expected tax income upon those estimates.

Since there is no expectation that any of the Treasury’s team would have predicted the pace, or eventual top, of the rise in the forecourt price of petrol and diesel.

This would mean that their estimates for fuel duty for this year has been completely lower than what will be received, and the Exchequer will have a healthy surplus which, for some reason, is being totally ignored.

There is no reason that the Government is unable to create a cap on consumers’ fuel prices with the tax receipts the Government receives, capped at a set price, which will produce a saving for the public.

This week continues its internal fight to find a path that ensures that the economy doesn’t tumble into recession, but also brings inflation down to a more acceptable level.

Andrew Bailey and his colleagues on the Monetary Policy Committee are in a difficult, impossible position. They clearly feel that the support that the economy has received should be sufficient to keep the economy in expansive territory, even if that is only just.

Inflation continues to rise, and the factors causing that are mostly out of the Bank’s control. They will hike by a further twenty-five basis points this week and when CPI data is released, it is unlikely that price rises will have abated to any degree.

The Bank’s base rate will rise to a thirteen-year high this week, but that may not yet be enough.

Last week, Sterling made several efforts to break higher, reaching a high of 1.2599. However, it was unable to consolidate and fell back following U.S. inflation data which points to even more aggressive Central Bank action, and closed at 1.2314

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USD – Fuel price to add to FOMC decision

The forecourt price of gasoline (petrol) in the United States hit a significant and historical landmark over the weekend, reaching $5 per gallon.

It is likely that consumers expected such a level to be hit and this had a significant effect on consumer confidence, which fell from 59 in May to 50.2 in June. This was well below market expectations but was mostly overshadowed by the rise in headline inflation to 8.6% from 8.3% previously.

The FOMC, the Fed’s rate setting committee, could decide that the time has come to begin to up the ante when it meets this week, with the odds against a hike of seventy-five basis points being slashed.

While such a rise in rates would set a far more hawkish tone, it may be needed, given that despite a more hawkish overall set of policies, prices continue to rise.

This could easily draw the conclusion that since inflation appears to be out of the Fed’s control, that it is doing the economy more harm than good.

Given last week’s surprising rise in inflation, most observers expected the headline to remain unchanged, the press conference that Jerome Powell will hold following the announcement is expected to be considered even more hawkish than it would otherwise have been.

70% of economists polled by the Financial Times in a recent survey now feel that the economy will fall into recession next year. However, 100% believe that it will only last the minimum to make it official, which is two consecutive quarters. Those are expected to be the fourth of this year and the first of next.

That having been said, there are several issues that remain unsolved that could change the whole scenario,

Last month not only was headline inflation which includes volatile items like fuel and foodstuffs higher, but the core, with those items stripped out also rose. This points to a more extended period of high inflation, no matter the Fed’s tactics.

While the market has been concentrating on FOMC action, jobless claims have begun to increase over the past few weeks.

It had been felt that the 200k would be the median point for the data, but it now marks the base. There is no need for the market to be concerned that the employment market is turning significantly higher yet, but once the average reaches 220k, alarm bells may begin to ring.

Last week, the dollar index remained supported, and the inflation data gave it an unexpected boost on Friday.

It reached a high of 104.23, closing at 104.17. A lot will depend on both the outcome of the FOMC meeting this week and the words of Jerome Powell.

EUR – Additional action needed in several members of the EU

Several nations that are members of the Eurozone are concerned that any continued dovishness in the words and deeds of the ECB will see inflation continue to rise in their nations.

The Governor of the bank of Estonia spoke in the wake of the Bank’s meeting last week, bemoaning the fact that if the ECB hikes by just twenty-five basis points next week, his country will have to enact further, internal, policies to bring inflation, which is currently running at nineteen percent, under control.

It is difficult to consider what the countries on the periphery can do on their own.

There were several comments from ECB members on Friday that owed a lot to the situation in their own country, with the collective being abandoned for now.

With such a wide divergence between individual inflation rates, it seems pointless to formulate policy to accommodate an average member of the Union which doesn’t exist.

As is usual at times of stress in the Eurozone, the question of one size fitting all will be raised. Successive EU commission and ECB Presidents have grappled with this issue and not even come close to a solution.

Time is the only factor for several members. No matter the policies agreed in Brussels or Frankfurt, the divergence between individual data and the average determines the length of time over which the policy will be effective.

A fifty-basis point increase in interest rates next month will not even scratch the surface of Estonia’s inflation issue, so it is easy to see what twenty-five will do.

If the Eurozone continues to exist, the only solution will be fiscal union, which will bring nations more in-line by equalizing both sides of nation’s balance sheets by levelling up social payments, state pensions and other benefits.

Last week, the euro suffered at the hands of a stronger dollar. It fell to a low of 1.0505, closing at 1.0518. This was the second of two significant weekly falls and sets the tone for at least the rest of this quarter, with economic woes likely to push it lower again in Q3.