Business investment and consumer spending falling

The UK economy is facing numerous headwinds in the coming months that have contributed to a lowering of expectations for growth in 2022.

The British Chambers of Commerce has lowered its forecast from 4.2% to 3.6% combined with a warning that the economy will run out of steam in the coming months.

Business investment has so far failed to recover since the Government removed Coronavirus restrictions, while consumer spending has been hurt by continued rising inflation.

With the conflict in Ukraine driving energy prices higher, the increase in the level of the Government’s cap on domestic energy prices may be just the beginning. The price of fuel on the garage forecourt continues to rise, with the average price having now risen to £1.5350 up from £1.5280 per litre earlier in the week.

The Chancellor, Rishi Sunak, is coming under pressure from motorists’ associations and the haulage sector to cut VAT on fuel prices in his Spring Statement.

The Bank of England’s Monetary Policy Committee will meet next week. Having raised rates at the two earlier meetings, Governor Andrew Bailey and his colleagues face pressure to hike again despite the downward pressure on output and activity.

Inflation is expected to hit a high of 7.25% next month, and there is now evidence that wage demands are rising to keep pace with prices.

Following the acknowledgement from Fed Chairman Jerome Powell last week, that rate rises should have begun far sooner, a similar confession could be delivered by the Bank’s Governor.

Data for retail sales and house prices will be released in the next day or two. The year-on-year rise in house prices is expected to reach 10%, with retail sales likely to rise significantly, possibly by 15%, in the wake of the Government’s removal of the majority of its Coronavirus restrictions.

Last week, the pound suffered from the considerable fall in global risk appetite following the invasion of Ukraine by Russia.

It fell to a low of 1.3202, closing at 1.3249.

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Powell sees conflict worsening inflation outlook

The U.S. economy added 678k new jobs in February, significantly more than had been predicted and well above the January figure, which itself was well above expectations.

The data for wage increases was weaker than had been expected, leading to a reductio in fears that wage inflation could be beginning to reflect the rise in consumer inflation.

The unemployment rate fell to 3.8% from 4% in January, while the participation rate, which reflects those in employment or actively seeking work, rose to 62.3% from 62.2%.

Chicago Fed President and FOMC member Charles Evans commented that the labour market is in an exceptionally good position, despite the concerns being driven by the situation in Ukraine.

He went on to say that the Fed needs to be moving towards a more neutral stance on interest rates to combat the continued rise in inflationary pressures.

Evan’s comments have led the market to begin to consider a 50bp hike in rates at next week’s FOMC. Such views had waned a little since the invasion, with rising fears that the economy could be significantly hit as the global economy slows.

He went on to say that the sources of inflation being seen currently are not comparable with the 1970s, so they should be able to be brought under control using less accommodative monetary policy

The ending of Coronavirus restrictions in most states has led to a significant improvement in worker availability, and this was a major factor in the improvement being seen in the headline number and should lead to a larger increase in the participation rate than was seen in February.

Non-farm payrolls are still more than two million below the headline from February 2020. This is a sign that this sector of the economy should continue to thrive.

This week will see the release of data for consumer prices. These are expected to rise to 6.4% from 6% in January, although the month-on-month figure is expected to fall marginally.

The dollar index rose to new highs for the year last week. It hit 98.93, closing at 98.43.

Lagarde facing more pressure to withdraw support

The Governing Council of the ECB will meet later this week to consider monetary policy. There is unlikely to be any change in official rates, despite the hawkish comment made by the Bank’s President Christine Lagarde at the previous meeting.

Since then, the outlook for the Eurozone economy has been severely damaged by the Russian invasion in Ukraine which is expected to lower growth by around 0.5%, while pressure on energy prices due in part to sanctions on Russia will see inflation continue to climb.

The Central Bank has continually favoured support for the economy over inflation during the Coronavirus Pandemic, and although this was believed to be ending, Lagarde has been seen to step back from any thought of a rate hike this year, although the market still believes this will happen.

The Ukraine invasion by Russia has muddied the waters for the Eurozone, which was expected to begin its withdrawal of support despite several member states still not at the level of growth that was being seen pre-Pandemic.

German Chancellor Olaf Scholz held talks with Russian President Putin on Friday, but they could hardly be described as constructive.

Despite his relative inexperience in the role, Scholz has shown himself to be sufficiently tough when dealing with sanctions by at once ending any further construction on the Nordstream2 oil pipeline being built to deliver Russian gas to Germany.

The economic relationship between the two nations had grown steadily towards the end of Angela Merkel’s term in power, to the extent that Germany imports 60% of its energy needs from Russia.

The invasion has added another layer of complexity to the decision-making process of the ECB.

Thursday’s meeting was expected to signal the beginning of the end of extraordinary support, as the bank’s purchases of Government bonds were to be reduced.

With rising inflation and a fragile economy, just how the bank will react to the invasion is almost impossible to predict.

Christine Lagarde spoke last week of her concerns and confirmed that the Central Bank is watching developments carefully.

The euro has continued to fall due to both the fall in global risk appetite and the proximity of the conflict to the Eurozone.

It reached a low of 1.0885, closing at 1.0934. It has now fulfilled its medium-term aim, but there may be more weakness to follow should the ECB be seen as returning to a dovish posture or should there be an increase in hostilities.