ON A WING AND A PRAYER

BANK OF ENGLAND DELIVERS SOMBRE ECONOMIC ASSESSMENT

In the UK, the Bank of England’s Monetary Policy Committee delivered a downbeat message about UK economic conditions alongside its latest interest rate hike. In contrast to Fed policymakers, who are still saying it is possible for the US economy to ‘soft land’ despite its aggressive monetary policy tightening, the message from the BoE is that the UK economy is likely to enter a recession later this year and last for five quarters. Meanwhile, the MPC now expects inflation to move even higher in the near term, with the CPI headline rate forecast to exceed 13% in October in response to the next energy price cap rise. Inflation is still expected to move down significantly over the next few years and is predicted to fall back to the 2% target by late 2024 but the MPC warned that inflation would now “remain at very elevated levels throughout much of 2023”. The immediate market reaction was for both UK gilt yields and sterling to fall sharply possibly due to more uncertainty whether UK interest rates will rise further. Gilt yields have subsequently rebounded but sterling is still below its pre-announcement level against both the euro and US dollar. The BoE’s economic projections imply that it sees market pricing suggesting that Bank Rate could rise to 3% as excessive. Nevertheless, further hikes cannot be ruled out and our own projections see a further 50bp of Bank Rate increases in the current hiking cycle. One factor that may impact on that rate profile will be whether the new prime minister offers further significant fiscal support to households in the wake of the most recent news on energy prices.

US INFLATION REPORT TO PROVIDE MIXED SIGNALS Internationally, the July US CPI report (Wed) is bound to attract a lot of attention particularly after today’s strong labour market report. The fall in oil prices during July seems likely to have pushed down headline inflation and we forecast the annual rate to have slipped to 8.8% from June’s 9.1%. The further fall in oil prices in early August points to more near-term inflation relief from that area, moreover the sharp rise in gas prices in Europe which is putting upward pressure on UK inflation is less of a factor for the US. Consequently, unless the oil price rebounds sharply, we may now have seen the peak in headline US inflation for 2022. However, a less positive picture on inflation trends is likely to be provided by the ‘core’ rate (excluding food and energy). Recent monthly updates have shown signs of inflation broadening out to a wider range of goods and particularly services. We expect the July report to provide further evidence of this with the annual core rate of inflation rising to 6.2% from 5.9%. Fed policymakers have said that they are looking for “compelling” evidence that inflationary pressures are easing before they change course on monetary policy. However, this outcome would seemingly support the comments from officials that a further interest rate rise of at least 50bp is likely at their next policy update in September. Elsewhere the data calendar is light although China inflation and Eurozone industrial production figures, that are due next week, will be of interest.

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