19 July 2022
The campaign game
The elimination game of Musical Chairs is called ‘Reise Nach Jerusalem’ in Germany – a name said to be inspired by the Crusades. Whether or not this theory is correct, the game of finding Boris Johnson’s successor became more and more fierce last week, and by this Thursday, just two candidates and one chair will remain.
Tax cut promises have featured heavily in the campaign, in spite of the warning from the Office for Budget Responsibility that unless spending is curbed and taxes are raised, UK debt is on an “unsustainable path”. Last week, the CBI business group added its misgivings in an open letter, appealing to the candidates to focus on growth and a tax system overhaul, rather than quick cuts. It went on to describe the level of inflation pressure on businesses and households as “eye-watering”.
Data doesn’t lie
This week will see the release of inflation figures for June, along with the latest employment numbers, which are set to serve as strong indicators of whether the Bank of England will accelerate interest rate rises. Given that GDP figures for May came in better than expected last week, the pressure to do so has increased. The UK economy defied consensus forecasts of no growth, by expanding 0.5% – driven by healthcare services and signs of recovery in the construction and manufacturing sectors.
Nevertheless, June will more than likely show a large contraction because of the additional Platinum Jubilee Bank Holiday and the disruption to transport services from industrial action. Activity – especially in the retail sector – likewise looks set to be dampened this month, due to the current heatwave.
The British Retail Consortium announced that retail sales are dropping at a rate comparable to that of the middle of the pandemic, which only highlights the pressure on households’ finances. In-store and online sales have fallen for three consecutive months, with furniture, home appliances and computing the biggest victims.
In spite of growth concerns, the Bank of England is under pressure to continue raising interest rates so as to reduce the risk of higher inflation becoming ingrained. “The next Monetary Policy Committee meeting on 4 August should deliver an increase in interest rates of at least 0.25%,” commented Azad Zangana, Senior European Economist at Schroders. “The argument for a larger rise, however, is strengthening.”
US inflation high
The US had a similar tale to tell about rising inflation last week. In the 12 months to June, it reached 9.1% – the highest level for more than 40 years, with fuel and food costs being the main reasons. American families are being hard hit on the financial front, with signs that people are changing their spending habits and dipping into savings to pay for housing and food.
President Biden’s administration downplayed the backward-looking figures, but will nevertheless be concerned, given that mid-term elections are on the horizon for November and its popularity is falling as inflation has surged.
Markets had already thought to price-in expectations of a three-quarter point interest rate rise from the Federal Reserve at the end of this month, yet the hotter-than-anticipated inflation figures sent Wall Street lower on Wednesday due to fears about a full percentage point rise. By the close of the week, however, news of a surprise gain in retail sales and comments from Fed officials meant those expectations did a U-turn and US stocks recovered ground.
The euro dropped below the dollar for the first time in 20 years last week too – weakened by concerns that restrictions on energy supplies from Russia will heighten the risk of recession, not to mention fears that the European Central Bank has dragged behind other central banks when it comes to raising rates.
The impact of a weakening currency will mean imports are more expensive for eurozone countries, particularly goods priced in US dollars such as crude oil, which will then create higher inflation pressure – it’s already running at 8.6%.
Official figures released last week confirmed that the world’s second largest economy, China, has felt the brunt of recent COVID-19 lockdowns. Activity contracted sharply in the second quarter, with GDP falling 2.6% from the previous quarter – yet there were some positives, too. Unemployment fell to 3.5% and retail sales outperformed – however, many analysts aren’t holding their breath for a quick recovery as the government forges on with its strict zero-COVID approach to slowing the spread of the virus.
Global growth gloomy…
Ahead of a meeting of central bank governors and G20 finance ministers in Bali, Kristalina Georgieva – the head of the International Monetary Fund – said it would downgrade its expectations of global economic growth this month. She forewarned that the outlook had “darkened significantly” because of the impact of the Russia–Ukraine war, higher inflation, and the ongoing pandemic, and commented that central bank action on interest rates will “need to continue”. The IMF reported that 75 central banks have raised interest rates 3.8 times, on average, in the last year.
…but grain deal imminent
There was some positive news to end the week, with Turkey announcing that a deal was imminent to end the Ukrainian grain blockade. Russia, Ukraine, Turkey and the United Nations are now due to sign a deal next week.