Central banks are gearing up for the “final mile” in combating inflation with further falls likely over the coming months, but rising oil prices fuelled by geopolitical tensions are complicating policymakers’ efforts. In the UK, both firms and households expect inflation to ease, though households are more optimistic in this regard than firms. This week we’ll see whether the Eurozone’s central bank gives any hints about upcoming interest rate cuts.
Buffering up. Households continue to build their financial buffers. Net deposits rose £6bn in February, the fifth increase on the bounce. They’re borrowing more too. Net mortgage approvals for house purchase rose to a somewhat respectable 60.4k and overall lending to individuals grew by £2.9bn. Easing interest rates helped, down 29bps for new mortgages. Deposits also rose for firms, albeit by less. The next challenge for them is lending. Unlike households, private companies, both large and small, repaid £1.5bn in February. With luck, a relatively benign economic summer may help them find their mojo.
Cooling. In a further sign of easing inflationary pressures, firms reported to the Bank of England’s Decision Maker Panel survey a marginal decline in output price inflation to 5.3% (from 5.4%) in the three months to March, while anticipating a further moderation to 4.1% over the next year. Consumer price inflation expectations also cooled, with one-year ahead figure dropping to 3.2% (from 3.3%). Wage growth remained elevated at 6.4%, but with expectation that it will decline to 4.9% in a year’s time. And firms reported mounting borrowing costs, with average interest rates reaching 7.1% (from 6.7%). The anticipated 6.2% borrowing rate a year from now is still significantly higher than 3.6% firms had previously reported paying at the end of 2021.
Disinflationary whispers. The British Retail Consortium (BRC) shop price index eased to 1.3%y/y, down from 2.5% in February, marking the smallest annual increase since December ’21. Specifically, food inflation dropped to 3.7% y/y in March, although it remains higher than other categories, still well below the all-time high of 15.7% in April 2023. In the meantime, food inflation across OECD countries also eased to 5.3% in February from 6.2% in January suggesting that global disinflation will gather steam. Non-food inflation also fell by 0.4% month-on-month, indicating a further drop in goods inflation. Most forecasters expect inflation to fall below the 2% target in April. While the MPC may find comfort in slowing inflation, it will remain vigilant regarding persistent service prices.
Shifting priorities. In the latest Business Insight survey, 52% of businesses aren’t worried about climate change’s impact (up 10% from February 2023). Nevertheless, firms are still taking action to curtail emissions, 50% undertaking initiatives with LED adoption (30%) followed by smart meter installations (15%). Encouragingly, AI adoption is on the rise, particularly among larger firms (24% vs. 14% overall) with the deployment of LLMs most popular (7%). More businesses are embracing the use of innovative technology that could boost productivity. Many economists believe that generative AI is about to transform the global economy. The speed of adoption, bearing in mind that lags in technology adoption can be long, and the corresponding capital investment in this realm are definitely key to the size of productivity boost.
AI Transformation. A report by think-tank IPPR sheds light on generative AI’s impact on the labour market emphasizing the growing risk of displacement. Assessing 22,000 tasks in the UK economy, the study reveals that 11% are currently exposed to generative AI, a figure set to increase fivefold with deeper AI integration. Back-office and administrative roles, more likely occupied by women, typically face the highest disruption risk. However, creation of new occupations is also an opportunity driven by the positive employment effects of technological change. 60% of workers today are employed in occupations that did not exist in 1940s according to Goldman Sachs research. IPPR calls for proactive fiscal and regulatory policy measures to mitigate these changes and ensure a smooth transition for the labour market.
Tale of two asset prices. Unlike UK’s housing market, which is showing early signs of recovery, the commercial real estate sector continues to face structural headwinds. Quarterly investment volumes rose a touch in Q4, following seven consecutive quarters of decline, remaining well below the five-year quarterly average. High interest rates and falling capital values has created a lack of viability for debt buyers in the CRE sector. The drag came from the office sector which had the highest shortfall from its long-term levels, a sector that remains particularly vulnerable amid the hybrid work model and climate related transitions goals. As per the PMA, the capital values are set to fall further this year by c.6%, while other sectors are expected to bottom out.
Down and low. Headline inflation in the Eurozone dropped by 0.2pp in March, to 2.4%, nearing the bank’s target. What’s more, the core rate dipped by 0.2pp, to 2.9%, undershooting consensus. Food was the main drag on the headline number while non-energy industrial goods drove the decline in core inflation, with gains reaching 1.1% in March , from 1.6% previously. Will the ECB start cutting rate on Thursday? Unlikely. The rally in oil prices now points to upside risks in energy inflation in coming months. Services price inflation remains sticky and uncomfortably at 4% for five consecutive months. Plus, the unemployment rate remained unchanged at record low of 6.5% in February, providing little impetus for the ECB to initiate rate cuts immediately.
Reschedule delivery. It was robust on the face of it. The US added over 300k jobs in March, well above the expected 217k and propelling the unemployment rate down to 3.8% from 3.9%. But it wasn’t all positive. The government, healthcare, construction and leisure/ hospitality sectors drove the increase. Most other sectors showed little or no rise. All the gains came from those aged over 55 and under 25. The “prime age” 25-54 group actually lost jobs. And there’s weakness in full-time employment and hiring intentions. That aside, markets were convinced it would delay the Fed. Prior to the jobs report the odds of a cut by June was around 70%, having been as high as 90% a month ago. It’s now close to a 50-50 call.