26 March 2024: Mann sees little change in the inflation outlook

Independent member of the Monetary Policy Committee, Catherine Mann, voted for rates to remain unchanged at last week’s meeting. This was the first time she had not voted for a hike since the committee began to hike rates in December 2021.

Initially, she voted for higher incremental increases. She has more recently vehemently called for the MPC to continue to hike the rate after the majority of the committee voted for a pause, which then saw the end of the program of rate hikes.

Following the meeting on February 1st, she commented that she had been close to voting for no change, but still felt that the effect of secondary inflation would still see the fall in inflation continue to be slower than the Bank desired.

It was always considered to be one of the most interesting takeaways from last week’s meeting to see if Mann finally voted with the majority for rates to remain unchanged. Mann was joined by Jonathan Haskell who has been a constant, but less vociferous hawk since the pause began.

Yesterday, Mann gave her reasons for her change of heart and spoke of her view now being that the balance of risks between inflation and growth was roughly equal.

She feels that there has been little change in the inflation outlook since the February meeting, where she came close to voting for rates to remain at 5.25%. She did not elaborate on the reason she changed her vote this time, leading to speculation that she may be less inclined to fear that there may be an impending increase in inflation should rates be cut.

The Bank’s Governor also made a speech yesterday, for the first time since his press conference following last week’s meeting. He was able to elaborate on his remaining fears for the economy and the rate of inflation.

He feels that the Bank has set in motion a path that will lead to a steadily falling rate of inflation. However, he is still concerned that there may be another global shock that will throw the Bank’s calculations into jeopardy.

In part, the rise in inflation that took place over the past two years was due to the Russian invasion of Ukraine and the subsequent energy price shock. Global Central Banks had already started to pause their rate increases when the attack by Hamas on Israel took place on October 7th, but the disruption to shipping in the Red Sea as part of the wider conflict undoubtedly slowed the fall in price increases.

He sees the potential for further geopolitical shocks as the major concern for the economy this year. Sarah Breedon, the Bank’s newly appointed Deputy Governor for Financial Stability, joined Bailey in voicing her concerns about the current level of uncertainty.

The pound recovered from its heavy bout of selling following the MPC meeting. It rose to a high of 1.2652 and closed at 1.2632, regaining a significant amount of its losses from Friday.

Just when the majority of the market was getting used to the idea that the Fed may be the last G7 Central Bank to cut short-term interest rates, there are several observers are still considering that there is a “shock” in the pipeline that will send the FOMC into a more dovish state and see rates cut before late summer.

The Market’s attention has been sharpened by recent comments from Jerome Powell and is now only concentrating on inflation and employment data to justify the Fed’s position on rates.

There has long been a view expressed in the lead-up to the publication of the headline NFP data every month that there is about to be a significant drop in job creation. This has been going on since rates peaked at 5.50%, but so far, the data has defied such fears. Job creation, and its inflationary effect, have been one of the main reasons that the FOMC is inclined to hold onto its hawkish bias.

Jerome Powell is not given to providing conditions that will lead to a cut in rates, so the market makes assumptions on his behalf. While the level of job creation and the number of fresh jobless claims is a major part of the FOMC’s deliberations, inflation is still a major concern.

Powell prefers the Personal Consumption Expenditures data as a gauge of inflation since it provides a more all-round picture of overall inflation, while the more generally accepted Consumer Price Inflation can be subject to anomalies given its relatively narrow sample range.

Later this week, the latest publication of PCE data will take place, with the market expecting little or no change from the rate of 2.8% delivered last month.

This will mean that PCE has remained unchanged since January and will verify Powell’s belief that inflation remains “sticky” which goes a long way to justifying the Fed’s caution in committing to a cut in rates.

Other areas of the economy like GDP, Purchasing Managers Indexes, and housing remain strong given the level of interest rates, so the Fed feels comfortable in delaying any cut in rates.

The dollar index drifted back to a low of 104.14 as the Fed’s desire to leave rates unchanged sank in. It closed at 104.22 but is still well-supported at lower levels, with several investors looking to add to long positions on any further dip.

In her recent speeches, Christine Lagarde has decided to change her emphasis to add more justification to the ECB’s commitment to leaving rates unchanged until inflation reaches its 2% target.

It became clear very early in the Bank’s programme of interest rate hikes that it was willing to sacrifice growth to stamp out inflation, even though some of the rhetoric at the time led the market to believe that the region was on the verge of hyperinflation, which was not the case at all.

The significant rise in inflation was always likely to excite an overreaction within Northern Europe, given the low inflation policies that have driven the economies of Germany among others for many years.

By contrast, nations such as Italy, Spain, Portugal, and Greece were unused to such a degree of financial discipline and were prepared to let inflation rise, especially since they had a ready-made excuse for prices to rise given the level of fiscal support they received towards the end of the Pandemic.

The ECB and European Commission made two significant errors as the region emerged from Covid-19.

First, the ECB continued to provide support in the form of buying or guaranteeing the Government bond issues of the nations mentioned above, which allowed them to continue to borrow at rates that were inconsistent with the state of the economies, while the European Commission abandoned its safety valve in the shape of the Growth and Stability Pact.

This has seen several states see their debt-to-GDP ratios and budget deficits balloon to a level that will be almost impossible to rein in.

The effect of social programmes that have been started, in Italy in particular, have “watered down” the effect of tighter monetary policy, and have led to interest rates remaining “higher for longer”.

The ECB is still “mopping up” the excess liquidity that it pumped into the Eurozone economy, and it will take several years, if ever, for the economy to return to its pre-pandemic level of fiscal discipline.

The euro regained some poise following last week’s reaction to the latest Central Bank meetings. It rose to a high of 1.0842 and closed at 1.0837, although there is sure to be further interest to sell should it approach resistance at 1.0880.

Have a great day!