9 December 2022: It’s a recession, but not as we know it!

The Government is about to announce the largest shake-up in the regulation of banking and finance since Big Bang more than thirty years ago.

One of Mrs Thatcher’s flagship policies, Big Bang, was designed to radically change the way in which trading was done by opening financial markets for all. It heralded the arrival of electronic trading in stock and shares.

Banks took full advantage of the new, liberalized markets, but their thirst for profits created several dangerous practices which led either directly or indirectly to the financial crisis which started with the collapse of Lehman Brothers in 2008 and ended in 2012.

The most significant new measures that will be announced are the abandoning of the requirement for banks to keep totally separate their commercial banking business from their far riskier investment banking operations.

This effectively means that rather than risking their own capital to increase profits based on investment decisions, they will be free to use their customers’ funds. It is expected that there will be a limit to the percentage of their clients’ funds that can be used to reduce the risk, and it is likely that the Bank of England will be given new oversight powers to regulate the markets.

The limit of the size of banker’s bonuses will be removed. The potential for unlimited pay was considered one of the prime reasons for the undue risk taking that led to the near collapse of several financial institutions.

Insurance companies are likely to be given wider investment criteria under the new regulations that will allow them to invest in major infrastructure projects.

The new regulations are a direct result of Brexit and will be the most meaningful change so far.

Critics of the plans believe that the risk to the public’s savings is too great, while its supporters see it as a kick-start for the economy and will help to alleviate the damaging effects of the recession.

Data for new hires showed that a slowdown has already begun. With the housing market already exhibiting signs of a slowdown, the new hires data emphasizes the fact that workers are becoming more conservative when choosing to change jobs, due to the risk of companies downsizing, rather than staying put and putting up with a role where they fell more secure even if there is the short term benefit of a higher salary.

With inflation likely to remain high, the Bank of England is faced with the prospect of being an onlooker as the recession takes hold.

The pound is struggling to break above the resistance at 1.2280 against the dollar, although there is a good amount of support at lower levels. It rose to a high of 1.2247 yesterday and closed at 1.2239.

Over the past few months, the Federal Reserve has by and large made the right decisions in hiking rates to the extent that they are on the restrictive side of neutral.

More importantly, the markets have agreed with the rate hikes and are happy with the level of advance guidance they have received from Jerome and his colleagues on the FOMC.

Traders and investors found themselves in a position where they were able to take positions and make investment decisions confident in the knowledge that they weren’t about to find themselves on the wrong side of a surprise pivot in monetary policy.

That belief changed with the recent publication of the latest FOMC meeting. While the hawks remained in overall charge, there was considerable shift noted in the attitude of a number of members to the size of future hikes.

While the need to move short-term interest rates further into restrictive territory was acknowledged, it was discussed that the size of the increments could be reduced.

Then, Powell made a keynote speech last week, in which he acknowledged the view of the FOMC and added his weight to the discussion.

He went on to say that it may be time for rate hikes to be tapered, but the need for restrictive policy will remain while both current and future inflation remain elevated.

The decision of Congress to step in to avert the threat of a rail strike has given an unlikely boost to the prospect of the country avoiding a recession but has driven a wedge between the relationship between the President and a significant part of the blue colour workforce who make up most of the Democrat support.

Joe Biden will have to work hard to justify his decision as he prepares to stand for re-election.

The weekly jobless claims data which was released showed that the Feds’ policy of slowly turning interest rates restrictive is having the desired effect of reducing demand without decimating jobs. New claims in the week to December 2nd, rose to 230k from 226k

The dollar index has been unable to gain a foothold and is now threatening support at 104.50. Yesterday, it reached a low of 104.75 and closed at 104.81.

The argument over current and future monetary policy, which is taking place both within meetings of the European Central Bank’s Governing Council and at private meetings of Eurozone members Finance Minister’s, now appears to have three factions.

On the one side there are the hawks represented by Germany. They believe that the risk to the economy by continuing with further tightening of monetary policy is worth taking. Their Central Bank Head is more reflective than his predecessor but is nonetheless forthright in his view on where the common enemy is to be found.

The doves have as their spokesperson former Italian Prime Minister, Mario Draghi. He is both a pragmatist and a technocrat. He doesn’t necessarily believe in the lowering of rates to support weaker economies, although he is willing to face both higher prices and a rise in the ECB’s inflation target if it benefits the entire region.

Now, a third player has entered the fray. France despite its record of bouncing from left to right as far as its politics are concerned have, as President, probably the most flexible man in European politics currently

Emmanuel Macron strives for a seat at the top table and is prepared to be seen as the mediator between Germany and Italy, as well as supporting France’s current position economically, where inflation is at the low end of the scale and recession remains a possibility but not a certainty.

These three will thrash out the next move in monetary policy next week and leave Christine Lagarde to explain the reasoning behind the decision.

The hike in interest rates that will be achieved at the next ECB meeting is too close to call and will have more to do with doctrine than the current state of the economy.

With inflation having fallen according to the latest data yet still being elevated, each faction will have salient points to raise and reasons why they believe their preposition to be solid.

The single currency has performed well this week due mainly to the current uncertainty over the short-term prospects for the dollar. Yesterday, it rose to 1.0564 and closed at 1.0555.

Have a great day!