Budget could prolong delay in recovery

There is little doubt that the UK economy has slowed considerably since its stellar recovery from recession.

It will be difficult for Chancellor of the Exchequer Rishi Sunak to put in place plans to boost the recovery, since it is almost impossible to know exactly which of the problems are most pressing.

Sunak is facing calls from industrial leaders’ federations to leave taxation as it is, since with the current problems facing manufacturing and logistics, a rise in tax could easily blow them off course.

Hauliers are facing the threat of having to pay significantly higher wages to drivers to be both able to employ them and keep them. That will certainly have a knock-on effect.

Sunak clearly didn’t reckon with the issues facing the economy like fuel prices, and high and rising inflation when he set out to plan for this Budget.

When he delivers the Budget to Parliament on Wednesday, he will be acutely aware of the knife edge on which the economy is sitting.

The balance of fiscal and monetary policy has become even more acute, over the past few months.

With an acknowledgment that although the factors that make up rising inflation are indeed transitory; Andrew Bailey has been forced to admit that a heightened level of retail price increases will continue well into the New Year.

The new Bank of England Chief Economist Hugh Pill is known to be hawkish about monetary policy being used to control inflation but has also been keen to show that the Bank should support the recovery.

His colleague, Silvana Tenreyro, has explained how she favours expansion over tighter monetary policy, given the fact that higher rates won’t be a panacea for the current economic ills.

Data for retail sales was released late last week and showed how the consumer is concerned about rising prices in the run-up to Christmas.

Last week, the pound continued to be boosted by the market’s monetary policy expectations.

However, as the data put a rate rise a little in the shade, comments from Jerome Powell about the withdrawal of monetary policy support drove the dollar higher.

The pound reached a high of 1.3843, although it fell back to close at 1.3754, just a few pips higher on the week.

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Taper expected to begin next month

Federal Reserve Chairman Jerome Powell looks to have put wrangles about individual FOMC members, including his own, equity and fund trades behind him, with new regulations being brought in to improve oversight.

It remains to be seen whether the pressure that has been exerted on the President to ditch Powell and recruit a more left-leaning Chairperson to take over next February has abated sufficiently to allow Powell to keep his job.

It is fairly obvious that Powell retains the support of Treasury Secretary Janet Yellen, but that may not be sufficient. The decision is likely to be taken fairly soon.

Powell spoke on Friday of the need for additional support to begin to be removed sooner rather than later, despite feeling that the time is not right for a rise in short-term interest rates.

Powell acknowledges that the rise in inflation has taken the FOMC by surprise and admits that it is likely to remain elevated well into the new year.

The Fed Chair believes that risks are clearly for longer, more persistent bottlenecks that will exacerbate gaps between supply and demand. He went on to say that current policy is sufficiently flexible to deal with any outcome.

Janet Yellen confirmed that she believes that inflation will remain elevated until the middle of next year before it begins to abate.

It will be comforting for the market that both the Treasury and the Fed appear to be on the same page.

Preliminary indexes for activity and output across both manufacturing and services were released on Friday. While activity continued to expand, it was at a slower rate than was seen in September.

Preliminary PMI declined to fifty-nine compared to a 60.3 market expectation. This data remains within its current range and unless there is a significant shift, it is not likely to have any effect on Fed actions.

The dollar index threatened to break support at 93.50 last week, falling to a low of 93.49, but it recovered following Powell’s comments to close at 93.60.

Central Bank at the back of the rate hike queue

It seems like a long time since the market has been able to rely on official Central Bank guidance.

The European Central Bank will kick off a round of meetings this week, although it is a fairly safe bet that there will be no change.

The minutes of the meeting will make an interesting read to see if the rest of the frugal five are chastened or emboldened by the departure of their de facto leader, following the resignation of Jens Weidmann as President of the Bundesbank.

It is interesting to note that Weidmann’s announcement has had little or no effect on the value of the euro.

It seems that in the case of the eurozone, strong personalities are now trumped by majority decisions in favour of sound, sensible policies.

Supply chain difficulties are driving price increases the level of which haven’t been seen for twenty plus years.

IHS Markit produced its activity indexes and Friday, and their Chief Economist took to the wires to express his view that the ongoing Pandemic means that supply chain delays remain a major concern.

Fears that a new spike in existing cases of Covid-19 or a new variant emerging during winter, could disrupt economies and push prices higher.

The current problems facing the Eurozone are being especially felt in Germany, where shortages are becoming even more acute. The one piece of data that stands out as becoming more positive is hiring, which has reached its highest level since July.

According to Reuters, a key gauge of long-term inflation has now reached 2%. The five-year, five-year inflation breakeven forward has risen from 1.3% in January to touch 2% in the latest period.

Where transitory was the fashionable description for inflation earlier in the year, the new en-vogue expression has become bottlenecks, which are now the major contributor to heightened inflation.

The euro danced to the dollar’s tune last week. It rose to a high of 1.1669, closing a little lower at 1.1645.