28 June 2024: Swiftonomics may delay the rate cut

The Bank of England is concerned about the potential knock-on effect of the French Election result. The advances made by Marine Le Pen’s National Rally Party since the election was called means that it is a case of when, not if, the right wing takes over in the European Union’s second-biggest economy.

The effect on the country’s bond market could be devastating, with contagion affecting the French Government’s and corporations’ ability to borrow, but the issues reaching the UK market as well.

Holders of French bonds could then turn to other countries, causing a flight to other parts of the world and higher borrowing costs for heavily indebted companies and French households.

The Bank of England’s Market Risk team report considers “extreme risk” situations, although the market reaction is generally less sharp than feared.

Given that any market turbulence could well spill over into the UK economy just as the country is entering its period of political uncertainty, The Bank believes that it needs to put in place measures to deal with any additional volatility that could be similar to Liz Truss’ brief spell as Prime Minister.

UK Market authorities are not expecting that the situation could become out of control and are confident that it has fail-safe measures in place to deal with any significant risks that arise.

On a brighter note, the extraordinary success of Taylor Swift’s phenomenal “Era Tour” coupled with the increased economic activity from the Euro 24 football tournament and the Paris Olympics may have such a positive effect on spending that the Monetary Policy Committee has to further delay the cut in the base rate that was expected to happen following its August meeting.

With a £300 billion boost expected from the London shows alone with others taking place across the whole country, attended by close to seven hundred thousand people, the economic effect could see the rate cut delayed until September.

With polling day now less than a week away, there is still speculation about the accuracy of several opinion polls published over the past few weeks.

The 2019 election was characterized by a surge in support for the Conservatives which gave them a far greater majority than was expected, while the Brexit result was wholly unexpected.

A Labour “supermajority” is still the most likely result, but Reform UK is apparently making great strides and with support for the Liberal Democrats also increasing the outgoing government may see its support dwindle massively.

The pound has so far been mostly unaffected by election fever. Yesterday, it grabbed back most of the losses made in the earlier session, climbing to a high of 1.2670 before falling back to close at 1.2639.

The long-awaited Presidential Election Debate between President Joe Biden and former President Donald Trump took place last evening, and it went almost as scripted. Trump appeared confident with his attacks on Biden’s record in office containing far more “style than substance”.

Meanwhile, Biden was shaky in his delivery, although he did manage to respond with several deeply personal attacks of his own.

The two men traded barbs on the economy, Gaza, abortion and immigration, and Ukraine as they each sought to shake up what opinion polls show has been a virtually tied race for months.

Trump was always going to be more forceful in his attacks, with Biden struggling to maintain his calm occasionally, strengthening the belief that he is simply too old to handle the rigours of another four years in office.

It led one large Democrat donor to label his performance as “disqualifying”.

More Republicans are praising Trump’s proposal to take over “executive control” of the Federal Reserve, should he be successful in November.

More radical politicians from both sides have been critical of the Fed’s performance post-pandemic, but this may be little more than political bluster.

The Fed’s aggressive rate hikes aimed at controlling inflation due to the pandemic have made home buying “impossible” and put hundreds of small banks at risk, but a less aggressive view is that inflation was driven to its recent high by the extraordinary level of additional support that was poured into the economy by the Treasury.

The Fed’s independence is a cornerstone of its global standing, and irreparable damage could be done to the economy and global confidence if it was weakened in any way.

The economy grew by an upwardly revised 1.4% in the period between January and March, while inflation, as measured by Personal Consumption Expenditures, also rose marginally from 3.6% to 3.7%.

The Fed is still expected to delay any rate cut until the end of the year, but a hike in rates is still highly unlikely to happen.

The dollar index fell to a low of 105.71 yesterday but rallied late in the day to close at 105.93.

It is an almost impossible task to reach any level of agreement in such a diverse group as the ECB’s Governing Council, given the almost opposite views on inflation, growth and economic activity that are held by its members. The level of expectation that is held by nations like Germany, Holland and Belgium is vastly different to those of Spain, Portugal and Italy, with nations from the Baltic and Eastern Europe having long-held views of their own.

The ECB, unlike the Federal Reserve and the Bank of England, does not publish minutes of the rate-setting meetings, so it is impossible to truly understand its decision-making process, but suffice it to say that Christine Lagarde must have to draw on her vast diplomatic skills to get any form of consensus.

Lagarde is not blessed with the economic background of her predecessors, so is unable to make economic arguments that can challenge the more experienced Central Bank Governors who make up the Governing Council.

It is unclear how much “horse-trading” goes on at the regular meetings, but there are doubtless several factions and alliances that affect the process.

There is a particular lack of unity among Eurozone members about foreign affairs due to the fact there are several historical relationships that are both long-standing and significant.

Germany’s long-held export strength has been damaged by the war in Ukraine, with China not criticizing the Russian invasion, much to German dismay.

This has led to embargoes being put in place, along with tariffs on several items.

Despite the long-awaited rate cut having taken place, economic sentiment weakened noticeably last month, most likely because of the ECB’s continuing hawkish attitude to inflation.

This may also be traced back to the apparent divisions within the decision-making process and how much input individual nations have in the preparation of the final communiqué.

It may well be, for example, that Germany wants to continue to bear down on inflation while Italy is content to see it falling, even if the pace is uneven.

With the first part of the French election happening this weekend, an increase in volatility is likely in the early part of next week. Yesterday, the Euro rallied to a high of 1.0726, but fresh buyers were a little hesitant to become involved given the uncertainty surrounding the election, and the single currency fell back to close at 1.0703.

Have a great day!