WeeklyWatch – US debt-ceiling deadlock casts shadow over markets

16^th May 2023

Stock Take

Debt-ceiling deadline looms

When the topic of bill-paying difficulties hit the headlines yet again last week, households will no doubt have given a wry smile. However, the problem that individuals know all too well has now struck at a government level – specifically the US government.

In the ongoing power struggle between the two political parties, President Biden intensified the pressure on Republican lawmakers last week, urging them to promptly raise the nation’s $31.4 trillion debt ceiling.

Failing to do so will potentially push the US economy into a recession. While the United States has never defaulted on its debt before, the Treasury Department issued a warning that the government’s funds could be depleted as early as 1^st June. The scheduled debt limit meeting on Friday was postponed, but both parties have agreed to convene early this week.

This impasse lurked over markets, which otherwise had a relatively stable week following the preceding week’s turmoil. Will this latest development kick off more volatility?

Mark Dowding of BlueBay Asset Management suggests:

“Rather than a sense of security, we think the state of play in markets expresses the degree of uncertainty among market participants grappling with risks on several fronts, while interpreting late cycle economic data. In general, we wouldn’t be surprised if volatility picks up in the months ahead, so being patient remains the stance best warranted.”

Rate hikes start to hit home

The battle against inflation is one such risk, and there are indications that the Federal Reserve’s series of interest rate bumps is beginning to generate results. On Wednesday, newly released numbers revealed that US consumer price inflation (CPI) declined to an annual rate of 4.9%, the lowest since April 2021.

Furthermore, there were additional signs of inflationary pressures easing, as US producer prices experienced the smallest annual increase in over two years. However, the US labour market still displayed vulnerability, with weekly claims for unemployment benefits reaching an 18-month high. This development potentially provides the Federal Reserve with an opportunity to consider pausing interest rate hikes in the coming month.

GDP concerns GB markets

Signs of weakening inflation provided a midweek boost for US markets, but investors in the UK and Europe didn’t share the same excitement, with a more significant inflation problem on their side of the pond.

Indeed, the confirmation of gross domestic product (GDP) growth of just 0.1% in the first quarter of the year underscores the fragility of the UK economy. This downturn can be attributed to weak car sales and underperforming retail sectors. Concerns are now arising regarding a potential decline in the second quarter, particularly with the inclusion of the additional bank holiday. However, forecasters still anticipate a rebound in growth during the latter half of the year.

The news followed the Bank of England (BoE) confirming a 0.25% increase in the base rate, taking it to 4.5% and the highest level since October 2008. In its optimistic announcement, the BoE predicted that the UK would avoid a recession, forecasting a 0.25% growth in the economy in 2023 – an improvement on its earlier prediction of a 0.5% contraction.

The BoE now thinks that inflation will stay above 2% until the first quarter of 2025. However, as observed by Schroders’ Senior European Economist Azad Zangana, markets have recently been ignoring the BoE’s guidance due to its poor forecasts.

Zangana says:

“We think the BoE is close to ending its interest rate hikes, but we may have one more rate rise next month. Inflation and labour market data in coming weeks will be important determinants. If hiring remains firm, wages continue to accelerate and there is a smaller fall in inflation than expected, then the Bank may need to tighten further.”

China data subdues Asian stocks

Concerns about China’s economic recovery losing steam dampened Asian markets and heightened worries of a global slowdown. In April, there was a significant decline in new bank loans, and consumer prices experienced their slowest growth in over two years, with a mere 0.1% year-on-year increase compared to a 0.9% gain in March.

This announcement came on the heels of reports showcasing a sharp contraction in China’s imports during April, while exports registered a slower pace of growth. These figures indicate weakened domestic demand and the challenges faced by China’s major trading partners, who are grappling with mounting recession risks. As a result, there may be increased pressure on the People’s Bank of China to consider interest rate reductions or inject additional liquidity into the financial system.

Moreover, Japan witnessed an unexpected contraction in consumer spending in March, representing the sharpest decline in a year. Additionally, real wages continued to decrease for the twelfth consecutive month, primarily influenced by persistent inflationary pressures. Prior to the G7 meeting scheduled to commence on 19^th May, finance leaders from the world’s major economies gathered in the Japanese city of Niigata. One of the key topics on the agenda was the standoff over the debt ceiling in Washington and its potential implications for the prospects of a smooth global economic recovery.

Emphasising that the group must be ready to respond to any market repercussions, Japan’s central bank governor, Kazuo Ueda, stated: “I have faith US authorities will do their best to prevent it happening.”

Wealth Check

Investing in your children’s future is said to be priceless, but when it comes to private education, the scale of the financial commitment required is colossal. In the current economic climate, many parents will be wondering if they can afford to go private.

Fees, which plateaued during the pandemic, soared by 5.1% in 2022, up from 4% in 2020–21.¹ Amid the rising inflation, energy costs and food prices, education institutions have had little choice but to look to parents to help recover the shortfall. The average cost per child is now £20,480 per year or £6,827 per term for day pupils and £34,790 per year or £11,597 per term for boarders.²

Of course, there are costs beyond the first year’s fees to think about, too. You need to factor in school trips, uniforms and transportation for ‘day’ pupils. Not to mention regional variations and a 5% fee increase per year as well. A good rule of thumb is to budget for an additional 10% per year. This means that even if you earn a minimum of £100,000 per year, keeping up with rising school fees could be a struggle.

If you’re still determined to put the next generation through the private education system, the key is to start planning as early as possible. Every penny needs to work hard for you. It’s a good idea to discuss public versus private education before starting a family and make the decision to start saving soon after the child is born. By doing so, you’ll have up to 10 years’ worth of savings and the benefit of compound interest to help fund their secondary school education.

While the fees may seem daunting, doing your homework and working with your financial adviser can help set you up for success.

The value of an investment with St. James’s Place will be directly linked to the performance of the funds you select and the value can therefore go down as well as up. You may get back less than you invested.

Source:

^1,2 Schoolfeeschecker, 2022

The Last Word

“The wind of change has been blowing. What we need to carefully and maturely ask ourselves is, is Thai society building a wall, or a wind turbine?”

– Pita Limjaroenrat speaking at a rally before Thailand’s election over the weekend, during which his progressive More Forward Party comfortably won the most votes.

BlueBay Asset Management and Schroders are fund managers for St. James’s Place.

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SJP Approved 15/05/2023