25 September 2024: The pound is set for further gains

The pound looks set to remain strong well into the year’s final quarter, as the Bank of England will lag other G7 Central Banks in easing monetary policy.

The Bank’s Governor, Andrew Bailey, spoke yesterday of his belief that interest rates will settle at a “neutral rate” which is neither supporting the economy nor fighting inflation. When asked, he declined to say what that neutral rate would be.

Bailey said he and other members of the Monetary Policy Committee were very encouraged” by how far inflation had fallen over this year.

We still have to arrive sustainably at the 2% target, and we have quite an unbalanced mix of components of inflation now. But I’m very encouraged that the path is downwards therefore I do think the path for interest rates will be downwards, gradually,” Bailey said.

When asked if he expected rates to return close to zero as they were before the Bank embarked on its cycle of rate hikes following the Pandemic, Bailey was more coy.

The low inflation scenario that led the Bank to be able to cut rates to historically low levels was unique and unlikely to occur again, but the MPC is driven by the data and if such a situation recurred it would act accordingly.

The Prime Minister delivered the keynote speech at His Party’s Annual Conference yesterday. Since the event was designed to be the final celebration of July’s election victory, Starmer appeared loath to provide any new policy initiatives. He repeated Rachel Reeves’ words from twenty-four hours earlier, saying that his Party would “fix Britain and then build a country to be proud of.

This was the final event in Labour’s celebration “lap of honour” and now the country will want to see results even as it is expected to suffer tax rises, spending cuts and lower borrowing.

Following her “maiden speech” as Chancellor, Reeves unveiled a bold set of initiatives yesterday to drive economic growth. She will provide further details over the next few weeks in the run-up to the Budget, but she reaffirmed the Government’s commitment to its clean energy goals.

She made it clear that austerity is not on the table, declaring that “the era of trickle down, trickle out, economics is over.” Instead, she pledged to ramp up investment in the fast-growing green sector, signalling a transformative shift in the UK’s economic approach.

The pound continued to see good buying interest yesterday, climbing to a high of 1.3415 and closing at 1.3412. It is now entering overbought territory and may need a minor correction before it can see more significant gains.

Although he is not formally trained in economics, Jerome Powell uses his “lawyer’s instincts” to manage the economy and monetary policy. Having been Donald Trump’s most stand-out appointment to his Administration he has not only managed to remain in place, acquiring President Biden’s trust, even as a “card-carrying” member of the Republican Party, but has also gained the grudging respect of all but the die-hard Democrat members of congress.

The market appreciated his candour in saying in the wake of last week’s fifty basis point rate cut, that had the employment data been published before the FOMC met rather than just after, the cut in rates would have been delivered sooner.

He has remained resolute in his quest to lower inflation and can rightfully say that he drove the FOMC towards a more hawkish attitude when some members were concerned that the economy was faltering earlier in the year.

Only time will tell if the rate cut was sufficiently timely, but it certainly made a statement to the market.

Michelle Bowman made history last week by being the first Fed Governor to vote dissenter in more than twenty years. She has spoken this week about why she believes that a twenty-five-point cut would have been a more suitable response to falling inflation and slowing employment.

She said the inflation rate, which came in at 2.5% in August, is still “uncomfortably above” the Fed’s 2% target. But she also downplayed some of the risks to the economy, particularly when it comes to employment.

She went on to say “Although it is important to recognize that there has been meaningful progress on lowering inflation, while core inflation remains around or above 2.5 per cent, I see the risk that the Committee’s larger policy action could be interpreted as a premature declaration of victory on our price-stability mandate.”

The latest data for consumer confidence was published yesterday, and it fell below the market’s expectations. The Consumer Confidence Index is a key indicator of consumer sentiment and potential future spending. The actual reading came in at 98.7, a significant dip compared to the forecasted 103.9.

This downturn is not only lower than anticipated but also marks a decline from the previous index reading of 105.6. This decline suggests that consumers are less optimistic about the economy’s prospects, which could lead to decreased consumer spending, a major driver of economic activity.

The dollar index is still coming to terms with the implications of last week’s rate cut. It fell to a low of 100.34 yesterday and closed at that level.

It is natural for the heads of two members of G7’s Central Banks should talk regularly, Christine Lagarde told reporters yesterday, but there is no coordination between monetary policy decisions, even if they are both aligned in the dual roles of driving inflation down and boosting economic growth.

“We only did 25, he did 50,” she said, referring to Fed Chairman Jerome Powell. “But then we did it again, so that’s 50, 50.”

Inflation in the euro area has slowed markedly and is expected to continue to do so this month. Still, Lagarde didn’t give the all-clear. Asked if inflation was defeated, she said, “not quite, we are getting there.”

“Our target is 2%, I want to get to 2%,” Lagarde said. In August, annual consumer-price growth was at “2.2%, but I want to make sure that we are at 2% and that we stay at 2%,” she said. “We’re getting very close.”

Estonian Central Bank Governor, Madis Muller, was the first member of the ECB’s Governing Council to comment on the ECB’s most recent rate cut, he isn’t “totally” ruling out another interest-rate cut next month but reckons policymakers may lack sufficient data to make definitive judgments on the region’s struggling economy.

“It’s early to express a clear position on the interest-rate decision in October,” he told Bloomberg on Tuesday in Tallinn. “It will be easier to decide in December because then we’ll again have a full picture with an updated outlook.”

The Hamburg Commercial Bank PMI data was published yesterday, and it saw the composite figure for services and manufacturing dip into contraction, falling to 48.9 from the level of 51 seen in August.

A reading of 50 denotes the watershed between contraction and expansion.

The data has stoked the market’s expectation for rate cuts to be more than one per quarter, despite Muller’s views.

ECB Executive Board Member, Piero Cipollone, has expressed his fears that monetary policy could become too restrictive and lead to a significant “undershoot” for inflation.

“We must ensure that inflation converges to our target without holding back the economy unnecessarily because we desperately need investment and growth in Europe,” Cipollone said. “Every delay in this area puts us at a serious disadvantage.”

The Eurozone Bank’s economics teams are generally bearish about their outlook for the region’s economy. They believe that the recession that may already be happening in Germany may well drag the entire Union into contraction, and it may be on the verge of stagnation, even if the threat of stagflation has diminished.

The euro has resumed its rally this week. It climbed to a high of 1.1180 yesterday and closed at 1.1179.

Have a great day!