Data has final say
There is any number of reasons and even more theories as to why the market got so ahead of itself concerning the prospect of a rate hike in the UK.
This week was always going to be the watershed in the fight against inflation as the spring arrived despite the cold weather having a serious effect on retails sales data.
Sterling having risen by 3% despite the odd peak and trough during 2018 was sure to have had a positive effect on inflation. With the agreement of stage one of the Brexit agreement, last year and the agreement of a transition deal (of sorts) UK employers were sure to loosen the shackles a little and provide above-inflation wage increases.
I felt like a lone voice in the wilderness, but regular readers will know I have been sceptical about the need for a hike. The Bank of England leaning heavily towards the U.S. tinkering approach to the monetary policy where they want/need to be seen to be affecting the economy rather than the ECB “steady as she goes” methodology.
Wages, inflation and finally retail sales combined to bring a dose of realism to the market all brought together by comments from Bank of England Governor Mark Carney
Carney provides a realistic view of the rate hike
The Governor of the Bank of England Mark Carney being interviewed yesterday in Washington, brought a sense of realism to the debate over the need for a rate hike at next month’s Monetary Policy Committee commenting that “there will be other meetings, a clear note of caution in the face of what was beginning to look like mounting hysteria in the market.
I for one had questioned the credibility of the MPC as inflation was sure to start to fall as the effect of the “Brexit collapse” faded. There is no doubt that had inflation remained above 3% then action possibly a fifty-basis point hike would have been warranted as a shock tactic but with inflation coming back into like, even if it is as a product of a slowing economy, the time for radically driven rate hikes has passed.
Carney acknowledged that there will be differences of opinion at the upcoming meeting with hawks remaining committed to a hike but “there will be other meetings”.
The pound fell back to its 1.4060 support level which was the resistance following the recent rally and versus the common currency made a three-week low of 1.1407 and has continued to fall overnight emphasising that, for now, the rally is over.
Dollar sentiment improving with risk appetite.
With President Trump fast becoming the “pin-up boy” of South Korea with his surprising “taming” of Kim Jong-un, despite there is a very long way to go before a nuclear-free Korean peninsula can be declared, and showing surprising restraint over Chinese trade policy, the dollar is starting to become less affected by risk aversion and could be set for a more sustained rally. The underlying issue of the twin deficits remains but as risk appetite improves so dollar has upside potential.
The euro could test the bottom of is medium-term range around the 1.2260 level as the dollar rallies but there is no significant driver that will produce a lower euro and with ample liquidity deterring day traders as ranges continue to narrow, it is likely that the range will hold.
This week has seen the euro in an eighty-four-point range, the lowest since the first week of January, as improving and growing liquidity holds it in check.
Inflation in the U.S. is unlikely to grow significantly in the next few months. As the economy continues to improve Q1 GDP should break 3% which may alert the Fed but anything other than three hikes this year followed by a similar strategy for next year should prevail.