This week has seen so far a slight lowering of the volatility and extreme price movement that has recently affected world equity markets. My measure of triple digit changes in the Dow Jones Industrial Average is down to 19 out of the last 30 trading days. However there has been volatility in some government bond markets and for regular readers it is not hard to guess which ones. Also today we have more news on the UK public finances which allows me to do a sweep up of UK economic news as on Tuesday 22nd June we get a Budget from the new coalition government.
Mervyn King’s Speech
Yesterday I discussed the speech given by the Governor of the Bank of England at Mansion House and it would be fair to say that whilst not unexpected it was disappointing. Having read it again there was in it a large clue as to how the Bank of England plans to begin its exit from its current very large level of monetary stimulus.
There will come a time when our task will be to manage the exit from such an abnormal degree of monetary stimulus. The MPC will not hesitate to begin to withdraw the current degree of stimulus when we judge that is necessary. When it comes, that is most likely to be through a rise in Bank Rate with asset sales being conducted later in an orderly programme over a period of time, leaving Bank Rate as the active instrument.
So we learn various things of which the most obvious is that the time being talked about is not now apparently. However when the time comes the MPC will begin so doing by raising interest rates.
As someone who believes that interest rates should have been raised to 1.5% at the beginning of this year then this statement is always likely to look weak and somewhat mealy-mouthed. As to the order of events I think it is easily explained, I have a section on Quantitative Easing on this blog where I have discussed this matter many times, and I still feel that QE was entered into with no plan at all for the exit from it. Therefore it was always going to be delayed whilst they think of how to do it. As an example of this I remember Mr. Blanchflower an ex-MPC member writing in the press that they did not have to reverse it all, so he has publically stated that in effect he never planned for a reversal of this policy. My view is that he may well have been far from alone.
Moving from my thoughts to that of the markets the most obvious place to look for a view on Governor King’s speech are UK index-linked gilts (government bonds). As they are linked to retail price inflation what did they do yesterday in response to the speech and its implications for future inflation? Their prices rose quite substantially. For example our longest dated index-linked gilt is 1.25% 2055 and it rose by 3.30 to 124.69 which is a rise of 2.65%. Quite an eloquent move you might think.
We saw on Wednesday figures for UK unemployment and also employment and in a way it continued trends which we already knew. Overall UK unemployment has so far not risen as high as one might have expected in the dark days of late 2008 and 2009. So we should be grateful for that. The Labour Force Survey said that unemployment was 2.47 million which is lower than the 3 million predicted by some back in the dark days just mentioned (as an aside in the short-term you can read trends on this number both ways as on a quarterly basis it rose by 23,000 but on a monthly basis it fell by 4000). The unemployment rate also edged up 0.1 to 7.9% on the quarter but was down from the 8% reported a month ago.
The number for registered unemployment showed a fall of 30,900 to 1.48 million in May continuing an improving trend.
However somewhat disturbingly the numbers for employment are falling as well with the employment rate falling from 72.1% to 72% again continuing a trend. Some have reported a rise in jobs of 5,000 but then they have failed to point out that 56,000 full-time jobs were lost and replaced by 61,000 part-time ones. That doesn’t sound quite so good does it?
The explanation for this conundrum of falling unemployment and employment comes from the inactivity rate which for the three months to April 2010 was 21.5 per cent, up 0.1 on the quarter. The number of inactive people of working age increased by 29,000 over the quarter to reach a record high of 8.19 million. This was mainly driven by number of people in the “long-term sick “category increasing by 58,000 to reach 2.07 million.
Whilst the way that UK unemployment has risen has been slower than expected it is worrying that UK employment has been falling too. These are trends evident in the figures for the past few months. The explanation for the difference is the rise in the inactivity rate which this month was particularly affected by the numbers for long-term sickness. One cannot help but feel that there is a danger of people being shifted from an inconvenient category to a more convenient one and it does take the edge off what overall have been better than expected figures for unemployment.
UK Public Finances
Today has seen publication by the Office for National Statistics of figures for the UK public finances in May. According to it we borrowed as a nation some £16 billion and the national debt rose to £903 billion which is 62.2% of UK Gross Domestic Product (GDP). The borrowing figure was better than expected and was better than the figure for May 2009 which was £17. 4 billion. So a hopeful sign and the good news did not end there as the April 2010 deficit was revised down to £8.3 billion rather than the £10 billion initially reported. This revision was partly due to higher-than-expected receipts from a tax on banker bonuses which raised some £500 million more than previously expected.
Looking for an explanation for the improved numbers it looks as though tax revenues are being boosted by the recovery. For example current receipts rose 7.6 % in May from a year earlier(boosted by a 19 percent increase in cash receipts of Value-Added Tax) whilst spending climbed by 7.3 %.
Just as Chancellor Osbourne is building up for his Budget and tries to spin a scenario in his favour for cutting public spending he in fact finds that the evidence this week has gone against him. His new invention the Office for Budget Responsibility produced figures that did not tally with his attacks of “profligacy and number manipulation” against his predecessor Alistair Darling and now the borrowing figures are on an improving trend too….
I help someone who is self-employed with their self-assessment for income tax. In line with many self-employed people he has put in lower earnings figures for 2009/10 than the previous year and accordingly once the figures are settled will expect to pay less tax (I for one hope so as that is what I have told him!). However the Inland Revenue have been something of a shambles as we have updated his numbers online. Their system collapsed for updates online in March and they have been sending him all sorts of (incorrect by my maths) letters stating his liability and finished it off by sending him a cheque when he will owe them money. Accordingly if this scene has been repeated in any number elsewhere a note of caution is likely to be wise over income tax figures at this time.
Spain and her government bond auction
The announcement of the terms for Spain’s latest government bond auctions which I discussed yesterday were reported quite favourably in the media, although I notice that by the end of the day the Financial Times had gone from optimism to cautious optimism. We have been in this situation before when Greece was issuing bonds so let us look at events in more detail.
As to the auction itself it was only of 3.5 billion Euros so why were two bonds sold? If Spain’s officials believe their own statements then why not just issue the cheaper ten-year and offer the thirty-year when the situation has improved? So we began with a slight inconsistency. Then we found the day backed up with some news stories supporting the auction. For example El Pais reported that the stress-tests on the top 25 euro zone banks by size had Santander at the top and then El Economista reported that BBVA was second. Spain’s Finance Minister Elena Salgado gave a speech saying that the FROB (Spain’s version of a bad bank debt support vehicle) would only use a third of the funds planned. So there was what I call some “news support” for the auction.
Yet Spain still had to pay quite a lot more for the bonds than at previous auctions. Perhaps investors were wondering if there are two Santander’s as the one they know is struggling to get finance in interbank markets. The fact that yields were lower than the previous close by some 0.13% has also been presented as a success.However Spain paid 0.25% more than what her ten-year government bond yields were at the end of last week. As the days go by we are likely to get a much clearer answer as if the bonds were bought by short-term speculators it usually does not take long to show up. So in essence time will tell.
As to Spain’s bad-bank vehicle I have read the online documents for the FROB and it has 9 billion Euros of capital and the ability to borrow to increase the capital up to 27 billion Euros. I notice that many talk of it having a size of 90 or even 99 billion Euros and if Elena Salgado is following the same definition then her third is more than my 27 billion. I will look into this further.
You may have noticed from one of the comments on here that Greece has updated her unemployment figures since my post on the subject yesterday. As is the trend these days it leaked out before the statistics service published it. The figures themselves were disappointing with an unemployment rate of 11.7% for the first quarter of 2010 and only confirm my view on Greece’s prospects. I wish they were different as remember these are from before the new IMF inspired austerity plan.
The IMF commission that has been reviewing Greece’s finances has now completed its three days there and left making some favourable noises but as I pointed out earlier this week you can hardly expect them to have done anything else.European bank stress-tests
There appears to have been a lot of debate about publishing these amongst the European Union ending in a somewhat vague decision to publish them in the second half of July. This poses the question, if they are as good as the leaks indicate why not publish them now?