16 January 2025: McFadden backs Reeves to continue

Yesterday’s publication of Inflation data will have provided a little relief for embattled Chancellor of the Exchequer Rachel Reeves. Prices rose more slowly in the year to December than the market had expected.

Reeves faced criticism in Parliament as she flew to China for an arranged visit. Financial markets were close to turmoil as the UK’s borrowing cost rose to decades-long highs. She is still recovering from the criticism that followed the tax increases she announced in her October Budget, with the elderly and farmers bearing the brunt of her measures.

It has not been the welcome to Government Reeves and her Cabinet colleagues would have expected following their resounding victory in July’s election.

The overwhelming feeling in the country is that rather than the Labour Party winning the election, the Conservatives threw it away.

The economy ground to a halt in the second half of 2024, which may have happened to whoever was in power, but Labour now has to carry on and try to find a mix of policies that will encourage growth that will allow them to continue with their ambitious plans for the infrastructure, transport and healthcare sectors.

Inflation rose by 0.3% month-on-month in December, which contributed to a year-on-year rise of 2.5%, down from the 2.6% seen in November.

It was the first time inflation had slowed for three months and could set the scene for the Bank of England to cut interest rates from the current 4.75%, although the inflation rate is still higher than the central bank’s target of 2%.

Inflation in the services sector slowed even more dramatically than general Consumer Price Index inflation, from 5% in November to 4.4% in December.

Reuters said the Bank of England looks closely at services inflation and many investors now expect a twenty-five-point reduction in interest rates on Feb 6, at the bank’s next review.

Reeves will follow up on recent talks held by the Prime Minister with the heads of the UK’s regulators to find further ways to energise output and growth. Meanwhile, the Treasury is still pressuring government departments to try to find savings within their budgets for the current fiscal year, dangling the carrot that any savings made will be ploughed back into individual ministries.

The UK’s cost of borrowing fell slightly yesterday, providing a measure of relief to the Chancellor. However, it will need to fall more if Reeves is not to face tough decisions on tax increases or spending cuts as the country faces an added ten billion pounds of interest payments on its borrowings.

The pound rallied even as the prospect of a rate cut next month grew. It reached a high of 1,2306 but fell back to close at 1.2243.

Just when FOMC members were becoming conspicuous by their absence, four made speeches yesterday, and they each had a similar view on the path of inflation during 2025.

Kashkari, Goolsbee, Williams, and Barkin each emerged like the groundhog from hibernation to offer their views on the inflation data.

Minneapolis Fed President Kashkari, who does not have an FOMC vote this year, spoke of his view that tariffs themselves do not create inflation, it is the tit-for-tat measures announced by those on the end of Trump’s policies that may be the cause of price increases.

Goolsbee, from Chicago, who does have a vote this year, spoke about his hopes that the economy can still see a soft landing this year. Several market commentators were shocked to hear mention of the “soft landing” since they felt that had already been achieved and the economy had moved past such discussion.

Goolsbee said he sees continued improvement in inflation and is optimistic the central bank can tame price growth without sparking an economic downturn.

He spoke a few hours after the release of fresh consumer price data. While a jump in energy costs spurred an acceleration in a broad measure of inflation, underlying price growth slowed in December for the first time in six months.

Meanwhile, Richmond Fed President Thomas Barkin who is considered to be neutral in his view on monetary policy believes that the inflation data shows that the Fed is on the right track to bringing price increases down to its 2% target.

Finally, New York Fed President who has a permanent FOMC vote said he expects inflation to continue cooling toward the central bank’s 2% target this year, adding that he won’t be satisfied until the goal is reached.

Yesterday’s inflation report brought reassuring signs that price pressures cooled through the end of 2024, but the new figures look set to leave the core measure of the Federal Reserve’s preferred inflation gauge well above target last month.

Inflation has slowed significantly since it peaked in 2022, but the Fed won’t be satisfied without a further downtrend, Williams said.

“You want to see inflation move from where it is today…steadily moving toward the 2% goal,” Williams said at a Connecticut business conference yesterday. “2% inflation on a sustained basis is something I want to see happen.”

The market is now “baiting its breath” for further policy announcements from President Trump following his inauguration next week. Having seemingly had a significant hand in finally getting a cease-fire in Gaza agreed, he will turn his attention to the war that is still raging in Ukraine.

The dollar index is treading water as it awaits next week’s ceremony. Yesterday, it fell to a low of 108.60 but recovered to close at 109.11.

The ECB has reached the point in its fight to bring inflation down to its 2% target where it needs to strike a balance between encouraging growth and stamping down on inflation, according to its Chief Economist Philip Lane.

The European Central Bank plans continued interest rate cuts through July to support the struggling eurozone economy, even as the strain of U.S. tariffs creates further inflation. ECB Chief Economist Philip Lane advocates a balanced policy to prevent a recession.

Key eurozone economies are sluggish, with forecasts showing slow growth.

The French business climate darkened again in November, dropping one point compared with October to stand at 96, well below its long-term average. From a sectoral point of view, business sentiment rebounded in industrial output, but the rebound did not wipe out the huge fall seen in October, and confidence is still weak.

By contrast, business sentiment fell in all other sectors.

In services, the indicator fell by two points, due to a deterioration in the outlook for activity and demand. Business sentiment is also softening in wholesale and retail trade, where investment intentions and staffing levels are down.

Finally, in the construction sector, the business climate is also deteriorating, with business leaders revising their opinions of past activity downwards.

Germany’s economy contracted by 0.2% in 2024, marking its second consecutive annual decline and the first two-year contraction since 2002-2003, according to data released Wednesday by the country’s statistics office, Destatis.

The figures highlight persistent structural and cyclical challenges in Europe’s largest economy, including pressures on key industries and rising costs.

Meanwhile, the European Central Bank should continue to lower interest rates to about 2% as inflation in the eurozone was generally under control, ECB policymaker Mario Centeno said.

The ECB’s base interest rate will continue on a trajectory ideally towards values close to 2%, this is the expected path,” Centeno, who is also governor of the Bank of Portugal, said in an interview.

Inflation data for December is due for release tomorrow, with the market expecting a rise in the headline rate to 2.8% up from 2.7% in November. The core rate is expected to remain at 2.4%.

Political unrest and economic stagnation are plaguing significant eurozone players like France and Germany. Analysts warn that inactivity might hinder investment and consumption, exacerbating Europe’s response to external pressures like those from the U.S.

Key forecasts indicate a modest growth rate for the region, with economists expecting possible further rate reductions should the economic outlook worsen.

The euro gained a little respite from its recent continuing weakness. Yesterday it rose to a high of 1.0345 but fell back to close marginally lower at 1.0295.

Have a great day!