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Saturday 19th November 2016
Hi Friend,
Autumn Statement : "Spreadsheet Phil" ... not much to work with ...
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Autumn statement ... in a jam ...
Chancellor of the Exchequer, Phillip Hammond, will deliver the Autumn statement next week. An attention to detail and a love of numbers, the Chancellor dubbed "Spreadsheet Phil", will have a tough job on his hands, balancing the books in the years ahead.
The Prime Minister has promised money for those "Just About Managing". The Chancellor is in a jam, presenting jam for the JAMs. There are simply too many of them. Ten million according to the Rowntree Foundation. Even the smallest spread will make a big hole in the finances. There simply isn't the money to spend, not much to work with.
The OBR forecast will set an economic and fiscal backdrop of slower growth and lower tax receipts. The Chancellor will announce increased expectations of borrowing, up by some £100 billion over the next five years. No wonder gilt yields are rising. UK gilt yields closed at 1.5% at the end of the week. Fears of more gilts and inflation on the rise will push borrowing costs much higher.
So what can we expect? Some infrastructure projects will be announced with transport, schools and hospitals the focus. A freeze on fuel duty and child care subsidies may emerge. Tinkering with tax thresholds at the lower and higher levels will appeal to the Tory back bench. Don't expect too much from what will be the Chancellor's first big statement. There simply is not much to work with.
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Retail sales up 7.4% in October ...
There may be something to play with. The OBR forecasts may prove to be too gloomy. Tax receipts should be much stronger than have been realised in the first half of the year. Retail sales were up by 7.4% in volume terms in October. In value, sales increased by 6.6%. Internet sales up by 26% now account for over 15% of all non fuel sales. We haven't seen such strong sales growth since 2004. The U.K is experiencing a retail sales "boom" driven by a strong jobs market and household spending boom.
Unemployment fell to 4.8% in the three months to September. The lowest level since 2005. Vacancies are rising, the claimant count is falling. 31.8 million are in work, compared to 31.3 million just twelve months ago. Recruitment difficulties are increasing. No time to close the immigration gates and send foreign workers home. Earnings remain subdued for the moment. Average earnings were just 2.3% in the latest data for September. Private sector pay of 2.8% in the month, is offset by the subdued level of 1.4% in public sector pay. The Bank of England expects earnings to increase over the next two years, inflation is set rise and fast.
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So what of Inflation ...?
CPI inflation fell in October to 0.9% from 1.0% in the prior month. It is the calm before the storm. Service sector inflation slowed to 2.4%. Goods prices continued to fall, albeit at a slower rate of -0.4%.
In the chart we highlight the trends in producer prices. Output prices increased by 2.1%. A big swing over the past twelve months. Input costs for manufacturers increased by over 12% and will rise much higher in the months ahead. The recovery in oil and commodity prices, denominated in dollars, will be exacerbated by the weakness of Sterling. The step correlation between input and output costs, between output costs and CPI inflation is evident in our models. The time lag is in months not years. We expect a big hike in CPI inflation in the first quarter of 2017, as import costs increase.
So what of U.K. interest rates ...?
It is clear the Bank of England acted too soon to cut rates following the referendum result. Strong growth, rising employment, retail sales, household spending and the increase in inflation call for an increase in base rates. If 0.5% was the correct rate before the referendum, 0.25% cannot be the correct rate now. The hike should be back to pre referendum levels, then higher.
We have seen retail sales growth of over 7% before, in 2004. We have also seen the unemployment rate of 4.8% before, in 2005. In both periods, the base rate was set at 4.75% Gilt yields averaged 4.5%. Markets are already making the call for gilts, pushing ten year gilt yields to 1.5% at the end of last week.
In the U.S ten year bond yields move to 2.3% as Janet Yellen indicated U.S base rates are set to rise "relatively soon". Once the Fed makes the move, the MPC is set to follow. The correlation between UK and U.S. rates is high [0.8442]. We are leaving Planet ZIRP. Good news for savers and pension fund deficits. Not so good for those Just About Managing at home and in the Treasury.
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So what happened to Markets?
Markets, were up slightly - the Dow closed at 18,975 from 18,817. The FTSE closed at 6,775 from 6,730.
Sterling was down against the Dollar to $1.234 from $1.260 and up against
the Euro to €1.165 from €1.160. The Euro fell against the Dollar
to 1.059 from 1.085.
Oil Price Brent Crude closed at $46.31 from $44.70 The average price in November last year was $44.27.
UK Gilts
- yields moved down. UK Ten year gilt yields closed at 1.46 from 1.36. US
Treasury yields moved to 2.33 from 2.14. Gold closed at $1,296 from
$1,222.
John
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