16 May 2023: Supermarkets claim that food prices have peaked

The Bank of England is getting closer to being able to pause its cycle of interest rate hikes that have been running since December 2021 as food inflation has peaked according to several major supermarkets.

Having reached close to twenty per cent, and threatening to force the Central Bank into raising rates to a potentially dangerous level where they raise concerns over their effect on demand and therefore growth, prices of essential foodstuffs are showing signs of abating.

In a call with Bank of England Governor, Andrew Bailey, the heads of the major supermarket chains confirmed that prices are beginning to fall and are now at a stage where the lag between wholesale prices beginning to fall and retail prices steadying is taking place.

Given the need for supermarkets to fix prices for fresh items well in advance, the supermarkets face a challenge to balance what they are paying their suppliers and growers against what they are charging shoppers.

It is unlikely that the Government or Central Bank will feel comfortable and want to declare victory over inflation until there is tangible evidence that there is a significant fall in inflation which is still close to double figures.

The GDP figures for the first quarter of the year were encouraging, but the month-on-month numbers illustrated the fragility of the nascent recovery that is taking place.

In March, GDP declined by 0.3%, which caused some alarm in the financial markets. It is fairly clear that the electorate trusts Rishi Sunak’s Cabinet more over the economy than it does the Labour Party, but unless the country can see the consistent positive output, the Conservatives will struggle to make inroads into Labour’s lead in polls, given the level of mistrust that was evident during the “Boris Johnson era”.

The UK is the only major economy yet to reach its pre-Pandemic size, and this is the most significant factor that leads economists and analysts to believe that the country will have the weakest growth in the G20 this year.

The potential is all well and good, but at some point, it will have to translate into actual numbers if the Government and Bank of England’s credibility is not to be further questioned.

The recovery is centred around three areas that are seeing a major improvement from the fourth quarter of 2022; the fall in wholesale energy costs, vastly improved supply chain conditions and a rise in consumer confidence from multi-year lows.

Sterling saw an encouraging bounce from a short-term line of support that had been threatened by the price action of the past two market sessions.

It rallied to a high of 1.2534 versus the dollar and closed at 1.2528.

There is a huge amount of “crying wolf” associated with the threat that the country will effectively run out of money if the debt ceiling is not increased.

The debt ceiling is an entirely voluntary agreement which Congress uses to ensure that it has a degree of oversight over the Treasury Department and how much it needs to borrow in the markets over the coming financial year.

It was first introduced in 1917. Under every President since Hoover, the level of Government debt has risen. From 1962 to 2022, the ceiling was raised 74 times.

The market can therefore be forgiven for believing that the increase is little more than a technicality. However, the negotiations are real, requiring some serious give and take from both sides to reach an agreement.

Under a Democrat Administration, there is often more pressure to reduce public spending.

The Republicans use the raising of the debt ceiling as something of a “blunt instrument” to bludgeon the Democrats into lower levels of items like unemployment support and welfare payments.

A vote on an increase is expected early next week, but there is some serious “horse trading” to take place before that.

The cost of gasoline in the country appears to have stagnated, which is good news for the fight against inflation. Fuel costs are a significant differentiator between headline and core inflation.

It is assumed that the population only sees rising prices and is not overly concerned if they fall into a headline of the core category.

Interest rate increases are designed to dampen down demand in the economy, although, in practice, the public is interested in how much extra they have in their pocket having paid all their bills

On the wholesale side, the price of a barrel of Brent crude has remained below what is considered the watershed level eighty dollars for some now, last trading at around seventy-five.

Growth and output are threatened by concerns over the debt ceiling and a potential banking crisis and credit squeeze. Both are being closely observed by the Fed as it decides whether to pause its cycle of interest rate hikes.

The dollar index retreated following its recent rally yesterday. It fell to a low of 102.36 and closed at 102.44.

While all the talk is of when the ECB is likely to pause its current bias towards tightening monetary policy, there is an almost as a significant conversation to be had about how nimble the Central Bank can, or is prepared to be, about cutting interest rates.

As has been alluded to before, there is a degree of mistrust around the market about the ECB’s ability to manage the economy of the eurozone effectively, as well as undertake the myriad of regulatory tasks that it must also fulfil.

The European Commission was the arbiter of the Growth and Stability pact while that existed, but the effect of the “pause” in agreement to keep budget deficits below 3% of GDP and the government below 100% of overall GDP has fallen by the wayside.

The practical outcome of this falls upon the ECB as individual government borrowings balloon and the EU commission has very little will to introduce Growth and Stability Pact 2.0.

The market concerns about government borrowings will only increase until such time as the ECB decides that inflation is sufficiently controlled to allow it to pause interest rate hikes.

That is unlikely to happen in the current quarter, and maybe not in the next. The hawks are firmly in control of the Governing Council and are being ably assisted by the Central Bank’s President.

The fallout from a U.S. default caused by failure to agree to an increase in the debt ceiling is currently exercising the mind of Christine Lagarde. She spoke recently of the potential of catastrophe should the U.S. “run out of money. However, in truth in the long run, such an event would be quickly dealt with but could have major significance for the cause of having the euro adopted as the global medium of exchange.

The European Commission raised its growth projections and lowered those for inflation yesterday, in light of the falling cost of energy.

Growth is now expected to be 1.1% this year and 1.6% in 2024, up from 0.9% and 1.5% most recently.

Meanwhile, inflation is expected to remain relatively high staying above 5% this year before falling to 2.8% in 2024.

The euro benefitted from the dollar’s correction yesterday, rising to a high of 1.0890 and closing at 1.0874.

Have a great day!