Just as economists started winding down – this newsletter will see you again in 2024 – central banking delivered a touch of drama to interrupt the Christmas lunches. US monetary stance softening made waves in markets and introduced a new phase in the divergence between American and European macroeconomic realities. Although the UK’s disappointing GDP update was counterbalanced by rising consumer confidence, Britain approaches the new year in a more fragile position than our friends across the ocean.
Hawk eyes. It’s official. Bank Rate ends 2024 at 5.25%, up 1.75ppts since January, following another 6-3 vote to keep rates unchanged. But contrary to the Fed’s sanguine view on the inflation outlook, the Bank of England is sounding altogether more hawkish. An unexpectedly rapid decline in service price inflation in October is, apparently, not a “reliable” indicator. It’s important “not to over-interpret” recent signs of moderation in wage growth. And risks to the forecast are still “skewed to the upside”. Policymakers must see something in the data that markets don’t because rate cut expectations continue to build: a whole ppt worth of cuts are now priced-in by the end of 2024.
Cooling. The latest labour market statistics must provide some relief to the BoE, though, because the numbers continue to suggest that the UK jobs market is cooling in response to higher borrowing costs and a flagging economy. At the headline level, the picture remains the same as in September’s report. Employment, unemployment, and economic inactivity are all unchanged. Most importantly, the trend in wages is clear slowing. Average weekly earnings (excluding bonusses) rose 7.3% in the three months to October, from an upwardly revised figure of 7.8% in September. The sectors that have driven the fall in overall wages were financial and business services and construction. Vacancies continue to fall for the seventeenth consecutive month and declined 19% y/y in October.
Unholy trinity. Meanwhile, in grinch-type fashion, the pre-Christmas UK GDP release failed to provide festive cheer. The economy fell by 0.3% in October. As this is more than September’s 0.2% rise, overall activity flatlined on a three-monthly basis. All three sectors declined in October. Services, the biggest contributor, dropped 0.2%. Production fell by a hefty 0.8% and construction by 0.5%. The fall in services was in part driven by Information & Communication sector, down 1.7%, and within that computer programming, plus film and TV production were weak. These are typically the stalwarts of the UK economy, and good exporters too, so there may be an international angle to this. Legal services, another usually solid performer, also fell. It seems the UK’s big beasts are taking a nap. While this isn’t hibernation, policymakers will be feeling a little uncomfortable this Christmas.
Volatile. Moreover, British businesses generally continue to face a challenging environment, citing rising input costs, declining turnover, and heightened uncertainty. Nearly a quarter reported rising costs last month, with 1 in 5 anticipating further rises in January. A quarter of firms experienced a decline in turnover in November and 26% are expecting a further dip in January. Despite these concerns, overall business performance remains relatively stable, with a sizeable minority (15%) of businesses reporting an improvement over the previous year. Yet apprehension is evident in the 64% of businesses expressing concerns for January, up two ppts. This suggests 2024 will bring its share of challenges.
Optimistic. Interest rates have fallen off their peaks, real incomes have started recovering, and tax cuts and grants are helping further. PMIs suggest that economic stagnation could end soon. Given all that, it wasn’t surprising to see consumer confidence showing a recovery to -22 in December, close to the highest level in two years. Consumer outlook improved for both the economy and personal finances, which bodes well for consumer spending next year. Housing surveys are showing emerging signs of thaw too, suggesting a respite may be just round the corner.
United rates. Following encouraging labour market and inflation numbers, the Fed’s stance softened. As expected, the policy rate range was unchanged from the 22-year high it reached in July (namely 5.25% to 5.5%). But the dovish character of the new forecast made a splash. That implies 75 basis points of cuts in 2024 rather than the 50 signalled in the previous forecast. Markets reacted to the update and the surrounding language. The appearance of the word ‘any’ in front of the phrase ‘additional policy firming’, for example, indicated relaxation. But will the impact on financial conditions undermine the Fed’s mission to bring inflation back to target?
The next move is… down, according to the European Central Bank, at least. Its interest rate setters held the main refi rate at 4% last week. It also repeated its intention to hold financing costs at “sufficiently restrictive levels for as long as necessary”, seemingly quite a tough statement. But more tellingly it also cut its inflation forecasts, to just 2.7% for 2024 and below its 2% target for 2025. This change affirmed the market’s belief that the next shift in rate will be down and may well arrive early next year.
Historic? COP28 has concluded last Wednesday. The agreement for the first time calls for a “transition away from fossil fuels” – but “phase out” did not make it into the final document despite 130 countries pushing for it. The text recognises that limiting warming to 1.5C would require 43% emissions cut by 2030 (vs 2019). It calls for the world to triple renewable energy and double the rate of energy efficiency improvement by 2030. As a concession to oil and gas producing countries it mentions “transitional fuels” – a code word for gas – and carbon capture and storage. There was little progress on adaptation, but it was acknowledged that it will require trillions of dollars in support. A loss and damage fund to help the most vulnerable countries was operationalised, but significant work remains to build its capacity. Future actions will show whether it was indeed historic, as it was described by some.