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Saturday 10th February 2018
Hi Friend,
Earlier and to a somewhat greater extent ...
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The Bank of England decided this week to keep rates on hold. The MPC voted unanimously to maintain the level of base rates at 0.5% and to maintain central bank holdings of government and corporate bonds at current levels.
There was a modest change in monetary policy. The Term Funding Stance [TFS] was withdrawn. The scheme introduced in August 2016, allowed banks to borrow up to 5% of loan book at near base rate. £100 billion has been drawn down to date under the scheme. Rates have since moved off the floor and spreads have increased. It was time to end the concession.
Tightening policy, is this a sign of things to come? Perhaps. The Governor warned rates may rise "earlier and to a somewhat greater extent" ....
"The MPC judges that, were the economy to evolve broadly in line with its February Inflation Report projections, monetary policy would need to be tightened somewhat earlier and by a somewhat greater extent than it anticipated at the time of the November Report. All members agree that any future increases in Bank Rate are expected to be at a gradual pace and to a limited extent."
So much for forward guidance. "Earlier and to a somewhat greater extent but at a gradual pace and to a limited extent." Confused? Markets think the next rate rise could be in May. NIESR suggests we should expect a 25 basis point rise every six months, until the level hits 2%. It's a fair bet.
The Bank central forecast is now for growth to average around 1.8% this year and next. Inflation may rise above 3% in the short term but will end the year around 2.4%. Inflation is expected to return to target within the two year period. But then it always does.
The bank expects a re-balancing of the economy towards net trade and investment away from household spending. Wages are expected to pick up as employment trends remain strong, unemployment hovers around 4.3% and recruitment difficulties increase.
The uptick in world trade will contribute to the net trade performance, or so it is hoped. Relative rates of growth are a key factor in determining trade patterns. Growth of around 2% in the UK will contrast starkly with world trade growth of 5%. Strong growth in China and India, faster growth in North America and Europe will assist the process. With the exception of Venezuela, few of the economies under watch will exhibit negative growth.
The UK should benefit from some export rally in manufacturing, especially in capital goods for overseas markets. "The march of the makers, now rebuilding the workshop of the world in overseas lands". Our caveat remains, capacity is constrained and exports have a large import propensity".
Hence in 2017, the deficit on goods increased from £135.5 billion to £138 billion. It will rise further this year. The good news, the service sector surplus increased in the year from £95 billion to £104 billion. The overall trade in goods and services fell to £34 billion. We expect a further fall to around £30 billion this year.
Sterling rallied on hopes of a rate rise, then fell on news of intransigence on talks with Europe. The Davis-Barnier entente is cursed by some form of mutual schadenfreude. The pleasure derived from another's misfortune, is alas at the expense of the British economy.
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Transition deal is not a given ...
Eighteen months on from the referendum vote, the government has still not explained just what it wants in the post Brexit deal. Michel Barnier is frustrated. David Davis is upset.
The Brexit Tsar claims the EU is acting in "bad faith" in the negotiations. We were told it was all going to be so straightforward. No time to get fretful, first explain the ask!
Businesses are beginning to worry. They will execute contingency plans for a hard Brexit, in the absence of a deal. Relocation to within the EU borders of head office and manufacturing facilities will follow. Japan issued a stark warning to government this week about the risks Brexit poses to manufacturing in the UK. "If there is no profitability, then no private company can continue operations. It is as simple as that" said Ambassador Koji Tsuruoka. Japanese firms will be forced to relocate within the EU borders, the clear message.
The Prime Minister seeks to leave the single market and to leave the customs union. The objective to avoid a schism in the Tory ranks, or rather to appease the Europhobes. The dream team of Johnson, Gove and Mogg must be as much a nightmare in Downing Street, as it is in many other parts of the country. The plan is not in the best interests of trade and the manufacturing sector. It remains a dream for those living in the "demented fantasy bubble of a post-Brexit imperial renaissance." [The Independent].
Hard to explain to Jacob Rees-Moog, "on indefinite secondment from the mid-18th century, as the Honorable Member for the East India Company", [Op Cit] the world has moved on.
Hard to explain, that rules of origin will mean border checks are inevitable in Ireland and in trade ports around the UK. Calais confusion and rocks on the crossing to Gibraltar, occur even when things are going well.
The Prime Minister's hard line, that European citizens coming to the UK during the transition period, would not have an automatic right to remain, is just ill advised and unwelcome, positioning.
The Barnier riposte, the EU will retain the right to halt flights, suspend trade and impose tariffs, in the event of a dispute, is much stronger. Worse still, a transition period, so desperately needed by business in the UK, should not be considered as a given, warns Barnier.
Davis accuses the EU of bullying. The EU has the whip hand. It is time to curl up and take the hit. Bills must be paid before talks about trade. Talks about trade must be realistic other wise it is time to tell the truth. The areas voting for Brexit will be the worst hit. Automotive, Aerospace, Big Pharma and Financial will be damaged. Textiles, clothing and footwear manufacturing will face extinction. 90% of textile exports currently travel to the a free trade zone in a customs union, protected by tariffs from fiercely competitive world trade.
Jacob Rees-Mogg may herald an era of cheaper clothing and shoes for his people. Out of work, their clothing will be threadbare, footwear may return as clogs to the cobbled streets of those strange lands to the North.
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Markets ... prepare to vix and vol ...
US earnings popped in January to 2.9%. The Fed voted to keep rates on hold. The Blue dots forecast suggested at least three rate rises could take place this year. The dollar rallied, bond prices fell.
Treasury yields tested the 2.9% level, US stock markets fell 5% after what has been a prolonged bull rally.
The Dow and S&P were over extended, ready for a fall. We have been advising an "average" out since the start of the year. The time to move back in may not be long in coming. The fundamentals in the US remain strong, for the next two years at least.
The US government avoided a shut down as the spending bill was passed. Growth of 2.7% in the US this year, will be extended into next with near 3% possible in 2019. The era of fiscal austerity is over in the USA. Largesse is the new norm. Tax cuts for corporates, defence spending and infrastructure investment will underpin growth over the next two to three years. The GOP will perform well in the mid terms, a second term for Trump could well follow.
The US government is set to borrow $1 trillion dollars this year. The Treasury Department released data estimating it's borrowing needs would hit $955 billion this year rising to over $ 1 trillion dollars over the next two years. The amounts are considerably higher than last year's $519 billion. The $20 trillion government debt will increase to over 120% of GDP in the next five years.
The price will be paid in higher trade deficits and domestic inflation. The ticket will be reflected in a weaker dollar over the medium term. The appetite of China and India for US bonds will be severely tested. The US ability to enforce real changes in trade deals will be weakened in the process.
President Trump accused Democrats, who did not clap during his State of the Union address, of being un-American and even treasonous. It was slightly tongue in cheek. The President called for a military parade, just like the one in France. Macron has one, Putin has one, Kim Jung-un has one. So why not me! A fair point. Just what will the Chief of Staff wear on parade? A grand uniform with lots of medals and big epaulettes, no doubt. Yes and lots of hair spray to keep those errant strands in place!
That's all from me this week, have a great week-end,
John
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