Strong UK GDP growth rather embarrasses the Bank of England

This morning the UK has received some economic news which fits with the recent sunny and warmer weather.

UK gross domestic product (GDP) is estimated to have increased by 0.6% in Quarter 1 (Jan to Mar) 2024, following declines of 0.3% in Quarter 4 (Oct to Dec) and 0.1% in Quarter 3 (July to Sept) 2023.

That is an outright good number and even our national broadcaster is reporting that.

The 0.6% rise in GDP means that the economy grew at the fastest rate for two years, according to the ONS.

It is the best growth since the first three months of 2022 when Russia invaded Ukraine, sparking an energy crisis, soaring food prices and general inflationary chaos.

We have wiped out the recession although to my mind if you recall the wild swings in retail sales ( a collapse in December and a surge in January) I think some of the fall then rise was a statistical anomaly. The adjustments have not kept up with the changes in the times.But returning to the figures our growth was such we have something we have not had for a while.

Real GDP per head is estimated to have increased by 0.4% in Quarter 1 2024, following seven consecutive quarters without positive growth.

We can drill down into the numbers and see that services were the biggest contributor but not the fastest growth area.

In output terms, services grew by 0.7% on the quarter with widespread growth across the sector; elsewhere the production sector grew by 0.8% while the construction sector fell by 0.9%.

Services

In fact we saw growth in each of the individual months and it was pretty broad.

Services increased in all three months of the quarter: January (0.4%), February (0.3%) and March (0.5%), as explained in our monthly GDP release…….There was widespread growth in the services sector, with 11 out of 14 subsectors increasing in Quarter 1 2024,

The leader of the pack is below.

The largest contributor to the growth in service output was a 3.7% increase in the transport and storage subsector. This was largely driven by growth of 6.4% in land transport services via pipelines (excluding rail transport). This industry saw its highest quarterly growth rate since Quarter 3 2020.

Actually whilst there was growth in that sector some of it was via a reshuffling of the statistical cards.

 there was strong growth in February 2024 where Monthly Business Survey (MBS) data showed strength in the land transport services industry. A reclassification of a company into this industry, previously allocated in the wholesale trade excluding motor vehicles and motorcycles industry, also contributed to the strong growth.

Regular readers may recall the way that the construction numbers were distorted by something similar back in the day. It is one of the reasons (large revisions are another) why I lack confidence in them. As to the next area I think most would prefer it to be science rather than legal although of course the concept of science has been devalued by abuse of it.

Professional, scientific and technical activities increased 1.3% in the latest quarter and was the second-largest positive contributor. The growth in this subsector was driven mostly by legal activities, and scientific research and development.

I mentioned the swings in the retail sector earlier which were worse on a monthly basis at the turn of the year.

Overall, consumer-facing services grew by 0.6% in Quarter 1 2024, following a fall of 0.4% in Quarter 4 2023, and this was largely driven by Retail trade, except of motor vehicles and motorcycles.

Not every area grew and there was an interesting quirk which I have highlighted as is this another consequence of working from home?

Elsewhere there were falls in accommodation and food service activities (0.2%), and activities of households as employers; undifferentiated goods and services activities of households for own use (3.4%).

Production

Growth here was negative in January followed by a strong rally.

This reflects a fall of 0.5% in January 2024 followed by growths of 1.0% and 0.2% in February and March, respectively.

It was particularly welcome to see a recovery in manufacturing.

Manufacturing output is estimated to have increased by 1.4% in Quarter 1 2024 following a fall of 1.0% in Quarter 4 2023. The largest positive contributor was a 5.7% increase in the manufacture of transport equipment, which has grown for six consecutive quarters.

The breakdown has an interesting swing as I winder whether the decline in the textiles sector is due to the high inflation we saw in the clothing and footwear numbers?

Manufacture of basic metals and metal products grew 3.1% and manufacture of food products, beverages and tobacco showed growth of 1.5%. However, this was partially offset by a fall of 3.6% in the manufacture of textiles, wearing apparel and leather, which fell for the sixth consecutive quarter.

At the end of the report there are a couple of numbers which deserve more highlighting. With the problems in the water sector and Thames Water in particular the fall should be looked at more. Also in the midst of an energy crisis the fall in mining ( think oil and gas) reflects the disastrous policies our political class has imposed on us.

However, the growth in this sector and manufacturing was partially offset by a fall of 2.4% in water supply; sewerage, waste management and remediation activities, and a fall of 2.2% in mining and quarrying across the quarter.

As it happens their emphasis on renewables had a simply awful night especially for those who have been busy claiming that the wind always blows in the UK.

A proud moment for British ‘Wind Power’ As after 30 years of being papmpered and cossetted and subsidised big time, it can’t even manage to make 1% of our electricity tonight. Not 1/500th of our total energy needs

An absolute disgrace! ( @latimeralder)

Construction

As I stated earlier these numbers are rather unreliable.

Construction output is shown to have fallen by 0.9% in Quarter 1 2024 following a decline of 0.9% in the previous quarter. The level of construction output in Quarter 1 2024 was 0.7% lower than the same quarter a year ago.

Monthly Numbers

Each month showed economic growth and after the upwards revision to February it is pretty consistent for the monthly series.

GDP is estimated to have increased by 0.4% in March, following growth of 0.2% in February (revised up from 0.1% growth), and an unrevised increase of 0.3% in January 2024.

Bank of England

When I said that the numbers were welcome the Bank of England forecasting department may not be quite so keen after telling is this only yesterday.

Following modest weakness last year, UK GDP is expected to have risen by 0.4% in 2024 Q1

Even worse news is that they have used it for another of their theoretical brain farts.

 Despite picking up during the forecast period, demand growth is expected to remain weaker than potential supply growth throughout most of that period. A margin of economic slack is projected to emerge during 2024 and 2025 and to remain thereafter,

Comment

It is nice to be able to review and analyse some much better economic numbers from the UK. It is hard not to have a wry smile at those who have been tweeting Brexit Disaster this week just in time for our quarterly economic growth to be double the Euro area’s. Buy whilst the number itself is good and hopefully sets the tone for 2024 the annual number shows that 2023 was a troubled one.

Compared with the same quarter a year ago, GDP is estimated to have increased by 0.2% in Quarter 1 2024.

If we move from quarterly to monthly picture improves.

GDP is estimated to have grown by 0.7% in March 2024 compared with the same month last year

We have improved from shrinking ( the last annual number for Q4 was -0.2%) so the direction of travel is good and looks set to pick-up. But it is also true that 0.2% is not very much and within the margin of error.

Also another hopeful sign is that the GDP inflation measure is declining.

The implied price of GDP rose by 0.6% in Quarter 1 2024, where the increase is primarily driven by higher prices in household consumption and gross capital formation. Compared with the same quarter a year ago, the GDP implied deflator further eased to 4.0%

 

Japan discovers that a lower Yen and surges in equity markets can come with falling real wages.

Overnight has brought more news on one of both the main causes and features of the Lost Decade period in Japan. But before we get to that we can look at one of the symptoms which is the ongoing weakness in the Japanese Yen. Here is the Japanese owned Financial Times from last Friday.

When Japanese authorities deployed tens of billions of dollars to try to prop up the weakening yen this week, it was partly with an eye on the growing grumbles from people such as Keiko Shimoharaguchi. The 60-year-old retired in March looking forward to a foreign trip. But Japan’s tumbling currency is pushing her dream trip out of reach.

We can look at this another way via Bloomberg which seems to have discovered the Pacific currency war we have been looking at for around a year.

As the yen plumbs new lows, some investors are pondering an almost unthinkable scenario in a region busy bolstering falling exchange rates — a series of competitive devaluations that starts a new Asian currency war.

I guess that “almost unthinkable” needs to go into my financial lexicon for these times as on the 30th of June last year we were thinking it.

Are China and Japan the new currency devaluers?

But the essential problem in the latest crisis came here.

The decline accelerated after BoJ governor Kazuo Ueda appeared to play down the risks of a weaker yen when the central bank kept interest rates near zero last week. ( Financial Times)

Those familiar with the children’s game Ker-Plunk will know what happens when you are the one who removes the straw that leads to collapse, which is what Ueda-san found himself doing. The Yen fell below 160 to the US Dollar and we then saw this.

Over the course of four days, Japan is suspected of carrying out two market interventions, which the authorities have not officially acknowledged but traders estimated at a combined value of roughly ¥9tn ($59bn). ( FT)

The problem now is that like The Terminator currency weakness is back. A rally towards 152 before last weekend on hopes/fears of a coordinated response has become 155.80 today. Investors are showing no signs of being bothered by the possibility of more intervention.

The Economic Boost is not what it was

Regular readers may recall that the Japanese response to the problems of the Carry Trade and the strong Yen was to send manufacturing abroad. It did not start that well due to the floods in Thailand and now means this.

But the benefits of the weaker yen have also declined as Japanese manufacturers shift production overseas to reduce their exposure to currency volatility since being punished by its strength in the wake of the 2008 global financial crisis. With fewer goods produced in Japan, the boost to exports has become more limited.

It is hard to put in terms of our culture how bad this is in the Japanese one.Basically their long-term planning which they think makes them better than us has headed in the wrong direction. Even worse it has come because of their central planning with negative interest-rates and all the QE (QQE in Japan) although it may be too painful for them to think of it like that.

Real Wages

For newer readers a main driver of the Lost Decade period has been the falls in real wages. It is a factor also in the Financial Times story about oversea travel being more expensive as the Japanese are poorer in Yen terms before we get to the currency effect. There is an international link because since the credit crunch and more particularly the post Covid cost of living crisis many of us have seen a touch of The Vapors.

I’m turning Japanese, I think I’m turning Japanese
I really think so
Turning Japanese, I think I’m turning Japanese
I really think so

There has been another feature over a bit more than a decade where the MSM has continually assured us that this is about to change. It began with support for Abenomics where one of the arrows was claimed to be this although wherever that arrow went it was not into higher real wages. More recently last year and this year’s Shunto wage negotiations were claimed to show that things had really changed. How is that going?

Japan’s latest wage figures showed pay gains have now lagged inflation every month for two years even as a measure of the deeper trend points to steady growth. ( Bloomberg)

As you can see the wage growth pumping line has reached such a level of desperation at Bloomberg they seem to think that Japanese workers will be fooled by talk of a “deeper trend”.

Real wages fell 2.5% from a year earlier in March, marking the deepest drop in four months and running the streak of declines to exactly 24 months, the labor ministry reported Thursday. The consensus estimate was for a 1.4% decrease. Growth in nominal cash earnings for workers slowed to 0.6%, also missing forecasts.

Apparently if you only count the things that have gone up the situation is just fine.

Data for full-time workers that avoid sampling problems and exclude bonuses and overtime pay grew by 2.3%. This index, which is watched closely by the Bank of Japan, remained at or above the 2% threshold for a seventh month, in a sign of steady underlying salary growth.

I am sure that Japanese workers will be grateful that whilst their wages buy ever less the “underlying” situation shows growth. Perhaps the only cure will be to link the wages of Bloomberg journalists to this.

Meanwhile at the turn of the year Governor Ueda mentioned the real deeper trend

Wages and prices in Japan continued to rise, albeit slightly, until around the mid-1990s. In the late 1990s, the
year-on-year rates of change turned 0 or negative.

Real wages have been falling all this century and for all the rhetoric in his speech his chart shows that post Covid things have got worse rather than better. The annual figures are below.

2020 -1.2%

2021 0.6%

2022 -1%

2023 -2.5%

It is the latter number which is a particular concern because 2023 was supposed to be the year of changes in wages. Of course it was, but in the opposite direction. This has continued into 2024. So now even a good Shunto season will do well to get real wages back to there they started although I doubt it will be reported like that.

Comment

Earlier this year I pointed out that Japan Inc would be happy with the way it has kept interest-rates in negative territory for so long. In a way that was symbolised by the return to one of 0.1% at a time of Japan’s choosing. That gave it a more competitive Yen and a Nikkei 225 equity index finally hitting new all-time highs and going above 40,000.

The problem with all that was always the issue of central planning and control which as we have recently seen has torpedoed the Yen. But there is more as the central planning of the Nikkei 225 has issues too. From Toby Nangle in the Financial Times.

The Bank of Japan has, over 14 years, acquired exchange traded funds containing stocks equivalent to about 7 per cent of listed Japanese companies. In March, BoJ governor Kazuo Ueda called time on this aspect of the central bank’s extraordinary monetary easing programme. The bank has yet to announce what it will do with its half-a-trillion-dollar stock portfolio…….The ¥37tn of cumulative stock purchases have ballooned in value to be worth an estimated ¥77tn today, according to some estimates.

Is that another form of inflation? Real wages have fallen by enough without adding that in too.

The Riksbank of Sweden leads the charge to lower interest-rates

This morning has brought another example of the contrary times in which we live. After yesterday’s news from the Reserve Bank of Australia which may be mulling another interest-rate rise we received this from the world’s oldest central bank.

Inflation is approaching the target while economic activity is weak. The Riksbank can therefore ease monetary policy. The Executive Board has decided to cut the policy rate by 0.25 percentage points to 3.75 per cent.

Our first perspective is that they have kept their word as they suggested a rate cut was in the offing for May or June. In fact they have also added that they are not done for 2024 which as they are backing words with action has credibility.

If the outlook for inflation still holds, the policy rate is expected to be cut two more times during the second half of the year.

The next instant perspective is that this is a risk for the currency the Krona and many other central banks ( ECB and Bank of England for example) will be watching to see what happens next. An initial response is below.

EURO JUMPS VS SWEDISH CROWN AFTER RIKSBANK CUTS RATES; LAST UP 0.4% AT 11.725 CROWNS ( @FirstSquawk)

Actually the monetary policy report keeps coming back to the main issue here.

The strength of the US economy has led to higher interest rates globally….

The US economy has continued to perform strongly….

The strong economic performance is affecting inflation in the United States

Fewer policy rate cuts are expected abroad going forward…

The dollar has appreciated against other currencies.

We get the idea.

Inflation

If we switch to the inflation target we see the Riksbank slapping itself on the back.

Monetary policy and fading supply shocks have contributed to inflation now being close to the target. In March, CPIF inflation was 2.2 per cent, which was lower than the Riksbank’s forecast. CPIF inflation excluding energy was 2.9 per cent, which was also lower than expected.

Did the lower March number spook them into firing the starting gun on interest-rate cuts? That would be bad policy. Oh and according to the central bankers inflation expectations were anchored as inflation itself soared.

Inflation expectations are firmly anchored and wage increases are moderate. Information received since the Monetary Policy Report in March reinforces the outlook for inflation remaining close to target also in the
longer term.

However they are being a little disingenuous in their report by omitting this.Or if you prefer more of a guide to the actual cost of living.

The inflation rate according to the CPI was 4.1 percent in March 2024, down from 4.5 percent in February. On a monthly basis, the CPI index increased by 0.1 percent from February to March.

The difference is down to an area which is one of my major themes,housing costs.

The interest rates for household’s mortgages rose and contributed with 2.1 percentage points to the annual inflation rate according to CPI.

Whilst the central bank should not target this ( as by changing interest-rates it has raised it) it should also take note of what citizens are experiencing.

Anyway we then see that it is not as sure about inflation as its earlier words suggested.

However, the outlook for inflation is uncertain. As inflation now falls from very high levels, there is uncertainty on both the upside and downside.

Yes the “two-handed economist” has returned.

The Economic Situation

This has been weak for a while now in Sweden.

Swedish GDP growth has been weak but is expected to rise gradually. The GDP indicator points to low growth in the first quarter, in line with the March forecast. However, growth is expected to strengthen going forward.

I am not quite sure where they are going with the “low growth” line when Statistics Sweden has already told us this.

Sweden’s GDP contracted 0.3 percent in March, seasonally adjusted and compared with the previous month, as shown by the preliminary compilation of the GDP indicator. For the first quarter as a whole GDP contracted with 0.1 percent compared with the preceding quarter.

Indeed whilst the Riksbank sings along with the Beatles.

I’ve got to admit it’s getting better (better)
A little better all the time (it can’t get no worse)
I have to admit it’s getting better (better)
It’s getting better

Statistics Sweden are much less convinced.

“Swedish economic activity continued to weaken in the first quarter of 2024 with contractions in the months of February and March. This is the fourth consecutive quarter with negative growth.” says Mattias Kain Wyatt, economist at Statistics Sweden.

In fact they are suggesting it can get worse. This was reinforced by this on Monday.

Just as we thought that the Swedish economy was sending pro-cyclical signals, the Services PMI crashes back to contraction territory this morning ( @AndreasSteno)

Zawya provides more detail on this.

Activity in Sweden’s services sector fell to 48.1 in April from an upwardly revised 54.1 the previous month, compilers Silf/Swedbank said on Monday.

It was the first time since November last year the index has dropped below 50 points, seen as the dividing line between expansion and contraction in the sector.

The composite index of the service and manufacturing sectors decreased to 49.0 points from 53.0 points the previous month.

That is quite a lurch and takes Sweden in the opposite direction from the UK and Euro area who have both shown signs of a pick-up so far in 2024.

As to the background it has not only been a recession but perhaps also a depression.

 Both the month of March and the quarter as a whole had GDP-levels 1.1 percent lower than in their respective corresponding periods of 2023. ( Sweden Statistics)

House Prices

Another factor likely to cause central banks to cut interest-rates is lower house prices and Statistics Sweden posted the latest this morning.

Prices according to the Real Estate Price Index for one- or two-dwelling buildings fell by almost 1 percent at national level in the first quarter 2024 compared with the previous quarter.

Over the past year they have done this.

 On an annual basis compared with the first quarter of 2023, prices fell by more than 2 percent for one-or two dwelling buildings at the national level.

If you are wondering how much?

At the national level, the average price for one- or two-dwelling buildings was more than SEK 3.7 million in the first quarter of 2024.

Comment

As you can see this was in fact the central bank equivalent of the stars aligning. We have inflation galling back towards target, a weak economy and maybe most crucially another fall in house prices. Whilst they claim to be positive about there must be fears about the way it looks to be under performing the Euro area and UK.

Both the ECB and Bank of England will have their binoculars on the Krona to see what effect an interest-rate cut has? At the time of typing this it has fallen by 0.5% to 10.9 versus the US Dollar making the change over the past year 7,5%. Although perhaps a better idea comes from the fall of around 9% so far this year as expectations around interest-rates changed. It is a risk.

Swedish Krona near all-time lows vs USD at 10.94 (@akcakmak)

Fingers crossed for plenty of tourist spending for Eurovision in Malmo.

 

 

 

Should Australia have raised interest-rates today?

As the UK returns after its May Day break we find the economic news being set in a land down under.

At its meeting today, the Board decided to leave the cash rate target unchanged at 4.35 per cent and the interest rate paid on Exchange Settlement balances unchanged at 4.25 per cent.

That is from the Reserve Bank of Australia and gives us our first perspective which is that the expected interest-rate cuts for 2024 have not yet materialised. Indeed there has been talk in some circles of another rise down under. Let us look deeper via the inflation numbers.

Recent information indicates that inflation continues to moderate, but is declining more slowly than expected. The CPI grew by 3.6 per cent over the year to the March quarter, down from 4.1 per cent over the year to December. Underlying inflation was higher than headline inflation and declined by less. This was due in large part to services inflation, which remains high and is moderating only gradually.

As you can see the central bankers continue their obsession with core inflation although there is perhaps a sign of how badly things have gone for it by the rebadging as underlying inflation. But there is a much bigger issue of perspective here which I shall illustrate by jumping into the TARDIS of Dt.Who and taking us back to February 2022.

Inflation has picked up more quickly than the RBA had expected, but remains lower than in many other countries. The headline CPI inflation rate is 3.5 per cent and is being affected by higher petrol prices, higher prices for newly constructed homes and the disruptions to global supply chains.

So inflation was pretty much the same as now but expected to rise. So interest-rates were what 5% or more?

At its meeting today, the Board decided to maintain the cash rate target at 10 basis points and the interest rate on Exchange Settlement balances at zero per cent. It also decided to cease further purchases under the bond purchase program, with the final purchases to take place on 10 February.

Yes they dealt with a much worse inflation situation with an interest-rate of 0.1% and now think 4.35% is appropriate. I do not think they get enough criticism for this. I added the second sentence in the quote above because they were also actively trying to feed inflation via more QE bond purchases until that day. As the nutty boys put it.

Madness, madness, they call it madness
Madness, madness, they call it madness
I’m about to explain
A-That someone is losing their brain

In fact their deep technical expert analysis based on underlying inflation was that things were going to turn out just fine.

 In underlying terms, inflation is 2.6 per cent. The central forecast is for underlying inflation to increase further in coming quarters to around 3¼ per cent, before declining to around 2¾ per cent over 2023 as the supply-side problems are resolved and consumption patterns normalise.

Yet a year later they were forced to say this.

In Australia, CPI inflation over the year to the December quarter was 7.8 per cent, the highest since 1990. In underlying terms, inflation was 6.9 per cent, which was higher than expected.

Back to today

This morning the RBA persisted with its argument that what is in fact a lagging indicator is a leading one.

The persistence of services inflation is a key uncertainty. It is expected to ease more slowly than previously forecast, reflecting stronger labour market conditions including a more gradual increase in the unemployment rate and the broader underutilisation rate. Growth in unit labour costs also remains very high.

The reality here is that the rise in goods prices made real wages fall and services buy less for the same amount so we are seeing a realigning. Also there are signs that an adjustment is taking place.

At the same time, household consumption growth has been particularly weak as high inflation and the earlier rises in interest rates have affected real disposable income.

We have discussed on other occasions what have higher interest-rates achieved? Well here we see an example of them working although as you can see things get worse before they get better. But again our central bankers just seem confused.

Growth has slowed considerably over 2023 – driven by weak growth in the household sector. This is helping to bring the level of demand back into balance with supply. However, our assessment is that demand remained above the economy’s ability to supply goods and services without putting upward pressure on inflation.

Full Employment

Australia has more than full employment according to the central bankers.

Both the unemployment rate and the broader hours-based underutilisation rate remain lower than estimates of rates that are consistent with full employment, resulting in negative ‘gaps’

The actual levels are below.

The unemployment rate was 3.8 per cent in March, slightly above its 50-year low of 3.5 per cent in late 2022, and remains below estimates of the rate consistent with full employment.

So let me explain what “full employment” means. Sadly it is not that everyone has a job. It assumes that some are always going to be changing jobs so there is a type of base level for unemployment. Back pre credit crunch it was assumed to be around 4.5%. Actually a lot of theoretical economic numbers were 4.5% but that is another story. Putting it another way real wages should be rising as we have more than full employment.

But there are all sorts of problems with this if we return to the real world. I have just hinted at one.

Real disposable incomes have declined sharply over the past 18 months (Graph 2.10). Strong growth in nominal incomes has been offset by high inflation,

Real wages have in fact fallen and at 4.2% wages growth does not seem high to me if you allow for the inflationary surge just seen.

Also there is the issue highlighted in my home country the UK by the problems with the labour force survey. Can we trust the unemployment numbers?

Next up is the weak consumption numbers we looked at earlier.

Finally there is the whole issue of using equilibrium unemployment as a measure. Again returning to the UK it was a disaster ad became a laughing stock during the tenure of the “unreliable boyfriend” Mark Carney as Bank of England Governor.

Comment

The economic situation in Australia is complex. The RBA does not mention the money supply in its release but its last chart pack showed broad money growth to be around 5%. Bringing it up to date I note that in March broad money went above US $3 trillion for the first time. But more applicable for our purposes the annual rate of growth is 4.9% having seen monthly rises of 0.7% in February and 0.3% in March. On this basis  there is little or no scope for interest-rate cuts.

There are other signs that the economy may still be running hot.

Australia’s property market is showing no signs of slowing down, with data from CoreLogic showing property prices increased by 0.6 per cent in April.

It’s the 15th month in a row that Australia’s property prices have increased, with the national median dwelling value now $779,819. ( ABC)

Plus someone seems to have lit a light under rents.

Capital city advertised rents have grown by nearly 10 per cent over the past year, with growth broadly based across cities; growth in actual rents paid by new tenants has been a little higher than this over the past year but growth has now slowed to be closer to that of advertised rents.  ( RBA)

So whilst others are contemplating interest-rate cuts Australia may yet see another rise.

The Bank of England should take note of the money supply and abandon QT bond sales

On the surface this has been a quiet week for the Bank of England along the lines of the Norges Bank of Norway which has just voted to keep interest-rates at 4.5%. But as I pointed out yesterday its QE and now QT efforts have left it singing along with Coldplay.

Oh no, what’s this?
A spider web and I’m caught in the middle
So I turned to run
The thought of all the stupid things I’ve done

Plus there has been another development which turns the screw on it and it comes from an unusual source which is former Governor Mervyn King. Former Governors tend not to bite the hand which gave them a generous RPI linked pension plus the title of Baron King of Lothbury and Most Noble Order of the Garter. But as the Financial Times points out he has drawn his sword.

The Bank of England’s failure to forestall the post-pandemic surge in inflation was the result of collective amnesia in the economics profession about the role of money supply, according to a former governor.

He is of course correct about this and then he gently debunks the claim by Ben Bernanke that there was no group think at the Bank of England.

Lord Mervyn King, who led the UK’s central bank between 2003 and 2013, said on Thursday it was “troubling” that when prices began to rise in 2020 and 2021, there had been “no dissenting voices to challenge the view that inflation was transitory” among policymakers on either side of the Atlantic.

He then built up steam on the money supply issue whilst taking a swipe at academia as well.

“Too much money chasing too few goods is and always has been a recipe for inflation,” he said, calling it “foolish” for central banks to rely on forecasting models that ignored the role of money entirely.
“The academic economics profession has essentially jettisoned the idea that one might ask what the growth of broad money [a measure of the amount of money circulating in the economy] was telling us,” King said, adding that this consensus had “led to the problems we are now too familiar with”.

As an aside this raises another issue which has troubled me. These days students pay ( well borrow) a lot of money to get an economics degree and this is not matched in any way by much of the teaching. Also I see he was quite damning of the Bernanke Review as you can see below where he is accusing it of missing the main issues.

“The mistakes of 2020 and 2021 were not the result of presentation. The Bank might have used fan charts, the Fed used dot plots. It didn’t make any difference. They both made the same misjudgement,” said King. “What really matters are judgments about the state of the economy and the way monetary policy works.”

QT Bond Sales

These have been somewhere between a shambles and a disaster for the Bank of England. I did not mention them in yesterday’s post to avoid double-counting but another consequence of the rise in interest-rates is that the Bank of England is effectively capitalising its losses at the bottom of the market. You do not have to know much about markets to realise that buying at the top ( indeed creating the top) and then selling at the bottom is a bad idea.

Thus this from Bloomberg overnight rather caught my eye.

Demand for cash from the Bank of England jumped to a record £12.2 billion ($15.3 billion) on Thursday, the latest in a string of increases that may spur policy makers to ease financial conditions through the bond market within months, analysts say.
The BOE will opt to end its weekly bond sales later this year, which will act in tandem with interest-rate cuts to loosen monetary policy, according to Deutsche Bank AG and NatWest Markets.

Actually until recently many at the Bank of England will have welcomed the extra demand for cash as it tightened policy.

The clamor has already driven up a short term money market rate to 5.35%, above the BOE’s benchmark rate. That has the effect of tightening financial conditions, just as the Monetary Policy Committee is considering easing policy by cutting interest rates.

Frankly I think that they should stop the QT bond sales now. The main reduction in the balance sheet has come when bond holdings mature and making the cost of UK debt higher for subsequent generations is yet another policy error.

The Economy

Whilst the Bank of England is rather enmeshed in its own problems the UK economy looks to be experiencing something of a spring bounce.

The seasonally adjusted S&P Global UK PMI Composite
Output Index* registered 54.1 in April, up from 52.8 in March and in positive territory for the sixth consecutive month. Moreover, the latest reading signalled the fastest expansion of private sector business activity since April 2023.

It has been as so often for the UK economy services driven.

Stronger output growth was driven by a robust and
accelerated upturn in the service economy. Manufacturing
production meanwhile returned to contraction, although
the decline was only marginal. There was a similar pattern
for order books, with service providers reporting a faster rise while goods producers experienced a renewed downturn.

I am not sure where S&P are going with this though as the previous lower readings were supposed to give this level of growth.

The latest survey results are consistent
with the UK economy growing at a quarterly rate of 0.4% and therefore pulling further out of last year’s shallow recession.

Even what seems a minor statement like “shallow recession” will produce itchy shirt collars at the Bank of England. After all their forecast was for a deep recession with economic output falling by 2%

Comment

As you can see the Bank of England has dug several holes for itself with its policies. One could reasonably argue that over the past few years it has made the UK’s economic performance worse rather than better. It fed then ignored an inflationary boom and in return for an orgy of QE bond buying and interest-rate cuts we got very little economic growth. In an way I think that this from the Office for National Statistics earlier rather sums up the state of play.

Public service productivity in Quarter 4 2023 is estimated to be 6.8% below its pre-coronavirus (COVID-19) pandemic peak (Quarter 4 2019) but has remained relatively stable since Quarter 2 (Apr to June) 2021 through the post-pandemic period.

But fortunately the economy looks as though it is recovering in spite of their meddling. Although that does rely on the PMI release to some extent other numbers have been consistent with it.

 

More and more problems are emerging with the QE programme the Bank of England presented as a triumph

Last night brought some bad news for the QE programmes employed by the world’s central banks and ironically it came from the world’s main central bank.

The Federal Reserve has signalled that US borrowing costs are likely to remain higher for longer, as it wrestles with persistent inflation across the world’s biggest economy. ( Financial Times)

Actually I think that “higher for longer” was in fact used simply for PR so there is rather in an irony in it becoming true. But where this causes a problem is in the nature of QE (Quantitative Easing) bond buying.

1. You invest at a fixed interest rate or coupon
2. You pay for it at a variable interest-rate ( Bank Rate in the UK)

Another way of looking at the rises in interest-rates to deal with the inflationary surge is that it raised the cost base for QE. Remember this was considered at the time to be an establishment triumph as the central banks made a carry profit out of this.We can look at that world via the Bank of Japan which still lives in it.

First, the Bank’s income has been on an increasing trend. Interest income on the government bonds has been rising following the increase in the purchases of long-term JGBs.

That is my part 1 above and now let me bring in part 2

 in line with the developments on the asset side, there was a substantial rise in current deposits on the liability side, in the form of an increase in financial institutions’ excess reserves. In order to control short-term interest rates at the target level in the presence of such large excess reserves, it became necessary to apply interest rates on excess reserves. ( Governor Ueda Swptember 2023)

That policy has led to costs in other areas as last night’s intervention to support the Yne shows. But in terms of QE the Bank of Japan is still in the financial masters of the universe phase. Let me now bring that back to the Bank of England. Having set a Bank Rate of 0.1% they were willing and able to charge into the UK government bond market. I argued at the time they acted like headless chickens and it was their own 0.1% Bank Rate which made them think that buying the benchmark UK bond at 0.5% was a stroke of genius.

Group Think

Back in August 2020 Bank of England Governor Andrew Bailey gave himself a big slap on the back at Jackson Hole.

But, if this result proves robust, it suggests that “going
big and fast” with QE is particularly effective in these conditions.

It did not occur to him to wonder why no-one had done it before.

For many central banks, the main
tool to date has been further Quantitative Easing, in unprecedented scale and pace of purchases.

Later in the speech once the trumpet blowing was over we were told that reversing it (QT) would be a mere detail.

The MPC has considered its prospective approach to QE unwind in recent years, and in June 2018 set out
that the balance sheet would be unwound at a gradual and predictable pace, allowing reserves to fall back to
a level demanded by banks through their participation in regular repo operations, and once the Bank Rate
had risen to around 1.5%, thus creating more headroom for the future use of Bank Rate both up and down.

I would like to draw your attention to the Bank Rate quoted and this is where the group think comes in. Central bankers were unable or unwilling to think of any scenario where QE would go wrong and leave them with egg on their faces. In my opinion 1.5% was not chosen out of any view on what was likely for interest-rates but because it was a level where the Bank of England was expected to start making losses.

Yet even even what in Dune terms might be described as a “Golden Path” was dismissed by Governor Bailey.

The MPC keeps this approach under review, though I should make clear that it does not seem like an
imminent issue in current conditions.

The reality is that Bank Rate is now 5.25% and the trumpet blowing now looks like a combination of hubris and incompetence.

The Precious! The Precious!

One of the themes of the credit crunch era has been the extraordinary efforts made on behalf of the banks. Now let me continue the saga above via a report from the Treasury Select Committee which shows another example of this. The emphasis is mine.

Under quantitative easing, the Bank of England created £895 billion of new money in the form of central bank reserves held by commercial banks, of which around £700 billion remains in circulation. The Bank pays interest on those reserves at Bank Rate, currently 5.25%. This has generated considerable income for banks as a result of the sharp increase in interest rates since 2021. The Treasury is ultimately liable for these payments as it indemnifies the QE programme.

We can look at that in more detail.

Information about our interest income is published in Barclays Bank UK Annual Report.
Recently published figures associated with interest generated from cash held at the central
bank are £819m (2022) and £1,878m (2023).

NatWest earned approximately £2.85bn (2023) and £1.64bn (2022) interest income on
its central bank reserves net of TFSME interest payments to the Bank of England.

The Financial Times has added up the numbers as shown below.

NatWest, Barclays, Lloyds and Santander collectively received £9.23bn in interest on deposits held by the central bank in 2023, more than double what they had earned the previous year, according to figures published by the House of Commons Treasury select committee.

Some seem to be treating that as a total which rather forgets HSBC and all the other banks.

Comment

As you can see the claimed triumph of QE is leading to more and more problems. One way of looking at it comes from the fact that we are still mired in an era of low/no economic growth in return for all the borrowing and central bank largesse. Many will consider themselves to be worse off after the severe cost of living crisis we have been experiencing.

Personally I think that the numbers quoted by the banks above are an understatement and let me show why. The current stock of bonds is £704 billion and at a Bank Rate of 5.25% that suggests the gross payments on the Asset Purchase Facility are around £37 billion per year. One route the numbers were massaged above was the way Nat West deducted payments under the Term Funding Scheme.

Another way of looking at this comes via the public finances.

The borrowing of both subsectors is affected by payments totalling £44.4 billion made by central government to the BoE over the last twelve months under its Asset Purchase Facility Fund (APF) indemnity agreement.

Care is needed as profits of £120 billion were booked, but as you can see they are disappearing pretty quickly.

The group think madness continued an issue some of you may recall. Back in the days of Dame Minouche Shafik the Bank of England considered interest-rates of 0.5% and 1% to be significant for QT. You may recall also that she was so incompetent that she was moved on before the end of her term to save further embarrassment. So we have the interest-rate madness as well as the way that these people just move on. Guess where she is now? It has been in the news rather a lot.

Nemat (Minouche) Shafik became the 20^th president of Columbia University on July 1, 2023. President Shafik is a distinguished economist who for more than three decades has served in senior leadership roles across a range of prominent international and academic institutions.

There are consequences from US interest-rates remaining at 5.5% for the fiscal deficit and the Japanese Yen

Today is Federal Reserve day when just after 7pm (they are usually late) we learn the interest-rate decision of Jerome Powell and his colleagues. On the surface not much is expected which is highlighted by the front page of the Financial Times not mentioning it at all as I type this.Yet underneath the surface it is being very powerful via what the apocryphal civil servant Sir Humphrey Appleby would call “masterly inaction.” We can start with the financial market event of the week.

LONDON (Reuters) – Japan’s yen saw a sudden jump on Monday, suggesting the country’s authorities may have finally followed through on the FX market intervention warnings they have be making for months.

Monday’s moves follow a near-11% drop in the yen’s value against the dollar this year and a 35% slump over the last three decades that has pushed it to a 34-year low.

The around 5% pick-up in yield terms between the US Dollar and the Japanese Yen left it vulnerable,especially with Japan continuing the Abenomics style policies for a weaker Yen. On Monday with Japan quiet due to Golden Week the Yen found itself pushed to 160 as what the Japanese authorities were hoping would happen in several months took instead several hours. It looks as though they spent around US $30 billion in a barrage of intervention to get it back to 155, although they are being tight-lipped on the matter.

This has affected the Yen against other currencies as it was only recently it seemed a big deal that the Yen passed 160 versus the Euro. I remember people on Twitter scoffing at my view that the UK Pound £ would be strong versus it and I guess they were rather quiet when it nearly made 200 on Monday morning. A factor that has driven this on can be looked at via this from the 14th of December last year.

Most Federal Reserve officials have forecasted that the US central bank could cut rates by about 0.75 percentage points next year, as they held interest rates at a 22-year high…Officials expect rates to fall even lower in 2025, with most officials forecasting they would end up between 3.5 per cent and 3.75 per cent.

That lit the blue touch paper for bond markets and interest-rate cut expectations and on that road tonight could even have been the second cut. Except not only have there not been any so far the first one keeps getting further away.I pointed out at the time that the US two-year yield had fallen to 4.3% that day and in fact it later fell towards 4.1% whereas I recently noted it climbing back to 5% and it is now 5.03%. In itself it may not seem enormous but the change in expectations has been and along the way the central planners at the Bank of Japan have been wrong-footed. On the 30th June last year I pointed out they wanted a lower Yen and along the way Japan Inc will have welcomed that and the consequent all-time highs in the Nikkei 225 equity index as one of the signposts of the Lost Decade was taken down. But on Monday morning it became a bit of a rout, as these things have a habit of doing. This morning the Yen at just under 158 will be singing along with Queen and David Bowie.

Pressure pushin’ down on me
Pressin’ down on you, no man ask for
Under pressure that brings a building down
Splits a family in two, puts people on streets

US Fiscal Problems

The situation here begins will the Bidenomics policy which in old language would be called a dash for growth.

The IMF’s fiscal monitor estimates that the U.S. deficit for 2024 will reach 6.67% of GDP, rising to 7.06% in 2025 – double the 3.5% in 2015. ( Reuters)

In itself that is fine as long as the economy grows which so far it has. Whilst GDP growth in the first quarter of this year slowed to 0.4% it was some 3.1% higher than a year before which oils many fiscal wheels. But last night brought rather a change of emphasis from the US government.

US TREASURY SECRETARY YELLEN: I AM CONCERNED ABOUT WHERE WE’RE GOING WITH THE US DEFICIT. ( @financialjuice )

If we ignore the rather obvious elephant in the room about it being her policies which have sent in there we can see other issues. Back on the 26th of March I pointed out that she was also running the debt in a very risky way.

The US has shifted its deficit funding to short-term debt issuance, something most people in markets link to the fall in long-term Treasury yields since Oct. 2023. No one in the G10 remotely comes close to this shift. Canada is most similar, but debt issuance is much smaller… ( Robin Brooks )

The problem with doing that is you become ever more vulnerable to a fiscal crisis because you end up with quite a schedule of rollovers of your debt.

Now that was in theory going to be sorted by the Federal Reserve beginning a series of interest-rate cuts with US bond yields falling. Clever Janet! Except they have not happened and things in terms of the schedule always began a bit of a crunch next month due to the short-dated nature of her debt policy. Stupid Janet! With bond yields now high again refinancings will be expensive as we mull another case of theory clashing with reality. It also means that something else I noted on the 26th of March becomes more of an influence.

The interest on the debt alone exceeds $1 trillion per year, constituting around 20% of the government’s annual revenue. ( @BigBreakingWire)

As I frequently point out debt interest is a slow burner, but the issue for the US has changed. First there was all the Covid spending ( which officially does not count as most of it is on the books of the Fed). Then we have seen a continuation of loose fiscal policy added to by a very loose style of debt management by the US Treasury. Now US bond yields look set if I may use one of Jerome Powell’s phrases “higher for longer”

Comment

The Bank of Japan will be on alert later in case the policy announcement leads to another phase of Yen selling. It will no doubt be sending hints to Jerome Powell although there is the issue that the Federal Reserve is notoriously insular and rarely takes any notice at all of international implications of its policy. That means if we do get something there is a admission that the problem is very serious.

Next up is the issue of the fiscal deficit and Jerome Powell has mentioned this before as a worry. However he does not want to create a crisis and there are worries here. For example economic growth has been good and in the past many would have called the numbers below full employment.

Total nonfarm payroll employment rose by 303,000 in March, and the unemployment rate changed
little at 3.8 percent, the U.S. Bureau of Labor Statistics reported today.

Yet we see a fiscal deficit heading for 7% of GDP in what are officially good times.So we can expect something which Treasury Secretary Yellen has tried to forestall. These things can escalate quickly. One way of taking the pressure off would be an announcement to reduce QT……

Can the Bank of England finally catch up with what is happening in the UK economy?

As the day started and we reached a minute past midnight there was some very welcome news for the Bank of England.

INFLATION BROUGHT TO A HEEL

The headline from the British Retail Consortium will no doubt have been emphasised by the research student presenting the morning meeting. A “well played Governor” never does career prospects any harm and could be followed up with this.

Shop Price annual inflation eased to 0.8% in April, down from 1.3% in March. This is below the 3-month average rate of 1.4%. Shop price annual growth is its lowest since December 2021.

Non-Food entered deflation at -0.6% in April, down from 0.2% in the preceding month. This is below the 3-month average rate of 0.2%. Inflation is its lowest since October 2021.

As you can see we have a sector which is in disinflation ( unless sales are falling as well it is not deflation), plus the overall number is below 1%. So this is another hint that UK inflation is on its way to the target of 2% and maybe below. If there is a fly in this particular ointment it is the way that we still have food inflation.

Food inflation decelerated to 3.4% in April, down from 3.7% in March. This is below the 3-month average rate of 3.9% and is the 12^th consecutive deceleration in the food category. Inflation is its lowest since March 2022.

As you can see it is falling but when one allows for the falls at the commodity level in the UN Food Price Index it is disappointing that these have not arrived in the shops. On a personal level I have posted before paying more for potatoes and can now add carrots to the list. Let me also add a change in shop behaviour as Marks and Spencer can sometimes be cheaper than the discounters (Lidl in my area) for some vegetables.

Also one recent worry seems to be correcting.

Cocoa prices down another >10% today, following an historic >15% plunge on Monday. With @BobOnMarkets

permission, let’s declare the chocolate market has entered “meltdown” territory. ( @JavierBlas )

Reverse Indicator Alert

I am not surprised about the above because the thoughts of Chief Economist Huw Pill headed in the opposite direction last week.

against the background of a welcome decline in headline inflation, the outlook for UK monetary policy in the coming quarters has not changed substantially since the beginning
of March.

It appears that Huw who missed the actual inflation surge using all his expertise and experience to label it Transitory now sees it everywhere.

But the MPC’s framework for assessing the inflation outlook rightly remains more focused on the persistent component of consumer price inflation, as assessed through
developments in the three key indicators of inflation persistence identified by the Committee: services price inflation, pay growth, and the tightness of the UK labour market.

This leaves Huw in a rather delicate position. Having assured us that an interest-rate of 0.1% would be fine for 4% inflation. Huw now needs to explain why he thinks an interest-rate of 5.25% is required to deal with inflation set to be half that. Were the matter not so serious this would be the comedy section.

Putting it another way having ignored the actual causes of inflation Huw now wants to act on the consequences and on that road interest-rates would stay high for a while as it does not work like that.

Mortgages

There is another area which is awkward for Chief Economist Pill. But our research student will be happy to tell Governor Bailey this.

Net approvals (that is, approvals net of cancellations) for house purchases, which is an indicator of future borrowing, continued their upward trend, increasing from 60,500 in February to 61,300 in March – the highest number of net approvals since September 2022 (65,400).

So the outlook for this area is improving and net lending is positive.

Individuals borrowed, on net, £0.3 billion of mortgage debt in March, compared to £1.6 billion in February. The annual growth rate for net mortgage lending remained slightly negative at -0.1% in March.

Whilst the annual rate is still negative things look to be turning which the Governor will beam at. But there is a catch and it comes here.

The ‘effective’ interest rate – the actual interest paid – on newly drawn mortgages decreased by 17 basis points, to 4.73% in March.

Because the Bank of England looks at when people pay this they put in a 3 month lag for the gap between agreement and the actual start. So these numbers represent the fall in bond yields as we entered 2024. Whereas anyone following the updates on here will not be surprised that we are not singing along with Luther Vandross.

I know better now
And I’ve had a change of heart

Or as Sky News put it yesterday.

We’ve reported on a string of rate bumps from the high street over the last 10 days, and this morning NatWest, Santander and Nationwide moved.

In its second hikes announcement in less than a week, NatWest laid out increases across its full range of residential and buy-to-let fixed deals of up to 0.22%.

Santander, meanwhile, announced increases for both fixed and tracker deals across their residential and buy-to-let products – up to 0.25%.

The same hikes are being imposed for a range of Nationwide deals.

All of these will kick in tomorrow.

As you can see the environment is not now the one which turned the mortgage market. My leading indicator, the UK five-year bond yield, is 4.25% as opposed to around 3.5% as the year began. Thus UK monetary policy is tightening with inflation falling and Huw as ever looking the wrong way.

Consumer Credit

This category looks so much more friendly than its previous moniker unsecured credit suggested. As you can see it has shrugged off the interest-rate rises.

Net consumer credit borrowing increased to £1.6 billion in March, from £1.4 billion in February……..The annual growth rate for all consumer credit remained unchanged when compared to February, at 8.8%. The annual growth rates for credit cards and for other forms of consumer credit were both little changed at 12.0% and 7.4%, respectively.

In fact credit card growth seems to be on rather a tear. I fear that this represents people borrowing wherever they can in response to the cost of living crisis that we have been experiencing. I suppose even the rates below are much cheaper than payday lenders and the like.

In March, the effective interest rate on interest-charging overdrafts and interest-bearing credit cards decreased by 58, and 29 basis points, to 22.21% and 21.26%, respectively.

Money Supply

The hints of a turn in this area have continued.

The net flow of sterling money (known as M4ex) continued to increase in March. M4ex rose by £12.1 billion, compared to an increase of £8.9 billion in February.

Putting this another way the last 4 months up to March have seen cumulative increases of 1.4%. The impact of this is that the annual rate of growth is now 0.3%.

Comment

The situation facing the Bank of England is one of nuance. Sadly that seems too subtle for our hapless Chief Economist at the Bank of England. Inflation looks set to fall back to its target and more of the sort of action reported by the BRC this morning could under shoot it for a while. Looking ahead it is welcome that broad money growth is looking more positive but it is still quite a way short of the numbers consistent with a combination of low inflation and some decent economic growth.

As some of you have pointed out there are issues over the impact of higher interest-rates. That has been reinforced by the way that the money supplies of the Euro area and the UK have rallied in spite of it.But as inflation declines the confidence of the Bank of England is so low that it still feels the need to act against a surge which was in 2022. This means that having faced the surge with the lowest interest-rate ever they now impose 5.25% meaning rather than improving the situation they have been a malevolent and indeed incompetent organisation.

The one caveat is the external factor which as we have seen via the falls in the Japanese Yen is an issue. Thus if I was at the Bank of England I would let the ECB act first this time around.

 

The ECB will be cutting its balance sheet as it cuts interest-rates under present plans.

We can start our look at the Euro area economy with a reflection via the Dine series of books. For those unaware in Dune it is the future which is known and the past which is uncertain. I thought of this as I read the latest HCOB PMI update last week.

“The eurozone got off to a good start in the second quarter. The Composite HCOB Flash PMI took a significant step into
expansionary territory. This was propelled by the services sector, where activity has gathered further steam. Considering various factors including the HCOB PMIs, our GDP forecast suggests a 0.3% expansion in the second quarter, matching the growth rate seen in the first quarter, both measured against the preceding quarter.”

The estimate for the first quarter caught my eye because we had been told 47.9 in January or a decent rate of contraction, 49.2 in February for a minor contraction and 50.3 in March for an even more minor expansion. Some argue that in range of 48-52 the PMI numbers mostly just say a form of stagnation and you can take that two ways. One is that with economic growth at this rate being a bit more than 1% they have a point. Or for these times 1% actually feels okay. But my main point is that the PMI series has just rather rewritten its own history.

This matters as we know that the ECB follows it with President Lagarde and and Dr.Schnabel in the van of those who regularly mention it. Also in an unusual occurrence it shows President Lagarde as being correct in that the survey would show some better news. Although the most recent ECB statement changed its mind.

The economy remained weak in the first quarter.

Also her most recent speech has a curious reflection on things.

But history tells us that ideas can only drive growth if we first create the right conditions that allow them to reach their full potential – and if we are committed to breaking the bottlenecks that stand in their way.

The issue of “bottlenecks” reminds me that every press conference from her predecessor Mario Draghi called for reform. This type of theme continues here.

Most advanced economies, however, have seen productivity decelerate for some time.

Regular readers will recall us looking at a rather downbeat analysis of this from Dr.Isabel Schnabel which is now apparently morphing into this according to President Lagarde.

Developments in recent years suggest that the case for optimism was stronger.

Eh?

The good news for global productivity growth is that we see these new ideas flourishing across major economies, a direct legacy from the common ties that were crafted during the era of globalisation. And Europe, in contrast to what some may believe, is actually well placed to benefit from these ideas.

Those who see this being driven by the big US tech companies may be wondering how all the European attacks on them leave the European Union well placed? They may well be simply adding most of this to US GDP.

One study finds that generative AI alone has the potential to add up to almost USD 4.5 trillion annually to the global economy, roughly 4% of global GDP.^[10

Maybe it was a bit of a Freudian slip to measure it in US Dollars….

According to President Lagarde Europe is the world leader.

According to one study, Europe draws in more AI talent than the United States, with over 120,000 active AI roles, and last year, Europe accounted for one-third of total early-stage capital invested in AI and machine learning across the two economies.

I have had a look at the source quoted for this and it also refers to the UK so the definition of “Europe” used by President Lagarde seems to be rather flexible.

Money Supply

Friday’s update brought some minor improvements.

• Annual growth rate of broad monetary aggregate M3 increased to 0.9% in March 2024 from 0.4% in February

If you take that literally the rate of inflation looks set to fall further if we look ahead 18/24 months or so. The catch is that these numbers have been suggesting low inflation (good) but also low economic growth for a while now.

• Annual growth rate of narrower monetary aggregate M1, comprising currency in circulation and overnight deposits, was -6.7% in March, compared with -7.8% in February

There may be more of a change here than it may immediately look because the -113 billion Euros of January were replaced with 10 billion Euros in March. The numbers may not be accurate to 10 billion but there looks to have been quite a change for the better. Although that does rather collide with planned ECB policy.

The Governing Council intends to continue to reinvest, in full, the principal payments from maturing securities purchased under the PEPP during the first half of 2024. Over the second half of the year, it intends to reduce the PEPP portfolio by €7.5 billion per month on average. The Governing Council intends to discontinue reinvestments under the PEPP at the end of 2024.

So until the end of June we have a “the spice must flow” type of situation. But then any narrow money growth will face a monthly headwind of 7.5 billion Euros and at the end of the year reinvestments will stop meaning a faster pace of reduction. In monetary terms this will be picked up by the M1 numbers as cash is withdrawn. It will also influence the broader measures. This will be added to the existing contraction.

 In addition to that, given the APP gradual runoff, we also reduce our balance sheet by an average of about EUR 30 billion per month.

This gives us a really awkward situation. We have some hopes of economic improvement via a change in the narrow money supply and the ECB may stamp on it just as it is cutting interest-rates!

 but in June we know that we will get a lot more data and a lot more information and we will also have new projections, which will incorporate and be informed by all that will be published before the projection is completed.

For all the rhetoric about being “data dependent” we are being guided towards a June rate cut which will coincide with a further restriction in the money supply via more QT. Iy would be sensible to reverse course on the latter but President Lagarde was adamant.

That process is ongoing and will continue to happen as anticipated, as predicted and as determined by the maturity of those bonds that come to runoff, and then we will move to the reduction of the PEPP reinvestment, from the 1^st of July until the end of December. That’s the plan, but there is no further discussion on that.

Comment

The possible improvement in Euro area growth will not make much difference to the ECB and no doubt some wags will spot that inflation in terms of the ECB towers remains below target this morning.

Germany Hesse CPI (YoY) (Apr) $EUR Actual: 1.9% Previous: 1.6% ( @PiQSuite)

But if we switch to Quantitative Tightening we see that many central banks have got themselves into quite a mess. The US with the best performing economy as loosened the QT strings although it is not the Federal Reserve’s fault as Treasury Secretary Yellen has issued lots of short-dated debt. Whereas the ECB is trimming its sails and intends to add to it with a much worse economic performance. So I would not be surprised if the ECB abandons some of this. Better to be embarrassed than to actually be a fool.

Although it does beg a question of when the ECB can reduce its QE bond holdings?

Podcast

This week’s podcast has turned out to be rather timely as we see the Yen plunge and now intervention today.

 

 

Japan has put itself into rather a mess as the Japanese Yen weakens again

The pace of action is picking up and again we find ourselves looking East to the Pacific where economic events are in motion. I will look at the Bank of Japan statement in a bit but we can infer it from the response to it as explained by the Japanese owned Financial Times.

The yen fell to a new 34-year low on Friday after the Bank of Japan held interest rates near zero, despite rising pressure on the central bank to tighten its policy to prop up the currency. The Japanese currency fell to ¥156.13 against the dollar….

In fact it went as low as 156.82 this morning. What we are seeing here is the same forces at play that forced Bank Indonesia to raise interest-rates on Wednesday. The rise in US bond yields with the two-year passing 5% yesterday is applying what Hard-Fi described like this.

Can you feel it?
Feel the pressure…
Pushing down on me, oh, Lord!
Pressure, pressure
Pressure pressure pressure

On Wednesday I did point out that the Japanese authorities were taking quite a risk with statements like this.

JAPAN’S OCHI: USD/JPY MOVE TO 160 COULD TRIGGER ACTION; NO ACTIVE DISCUSSION YET ( @DeltaOne)

So let us take a look at what the Bank of Japan had to say.

Bank of Japan policy announcement

As you can see it is really rather brief.

At the Monetary Policy Meeting (MPM) held today, the Policy Board of the Bank of Japan decided, by a unanimous vote, to set the following guideline for money market operations for the intermeeting period:

The Bank will encourage the uncollateralized overnight call rate to remain at around 0 to
0.1 percent.

Regarding purchases of Japanese government bonds, CP, and corporate bonds, the Bank will conduct the purchases in accordance with the decisions made at the March 2024 MPM.

Actually I quite approve of a brief statement as central bankers often waffle on these days. But the crux of the matter is that interest-rates are unchanged and thus the gap to international ones and the US Dollar in particular remains very wide. We can look at it in terms of the two-year yield as currency players often park money in short-dated bonds and with Japan having a 0.3% bond yield we see a 4.7% gap with the US. Even economics 101 realises that you expect a lower exchange-rate from this.

The Financial Times expresses the official position below.

In March, the central bank ended its negative interest rate policy, raising borrowing costs for the first time since 2007.  In the wake of this historic shift to end its ultra-loose monetary policy, governor Kazuo Ueda has indicated he would like to move gradually to raise rates.

But rhetoric about an “historic shift” changed the maths by a mere 0.1% as traders do their calculations and with higher US bond yields in fact the situation is now worse.

Over to You Bank of Japan

Perhaps the new currency level suggested a loss of face as Bank of Japan Governor Ueda was speaking as we saw this.

BREAKING: YEN SWINGS FROM LOSSES TO GAINS IN SHARP MOVE. ( @financialjuice )

Some players got really rather excited.

JAPAN MOF TROLL ASS INTERVENTION

JPY SPIKE XXX

JPY 150-200 PIP DROP ( @Capital_Hungry )

For perspective let me take you back to March 29th.

“I strongly feel the recent sharp depreciation of the yen is unusual, given fundamentals such as the inflation trend and outlook, as well as the direction of monetary policy and yields in Japan and the US,” said Masato Kanda, vice finance minister for international affairs, in an interview Friday. “Many people think the yen is now moving in the opposite direction of where it should be going.” ( Bloomberg)

As Kanda-san is the man making the decisions here his thoughts are rather troubling. He has got the direction of monetary policy the wrong way around. I wonder who the “many people” are outside of his dinner guests? Not those who actually trade the currency as it was at 151 back then and the same Bloomberg article noted this.

The yen has lost about 7% this year against a broadly advancing dollar, making it among the weakest major currencies.

Also we see the problem with making grand statements.

“We are currently monitoring developments in the foreign exchange market with a high sense of urgency,” said Kanda. “We will take appropriate measures against excessive foreign exchange moves without ruling out any options.” ( Bloomberg)

You might be thinking he has acted today Shaun. But as I have been typing this the currency markets have returned the Japanese Yen to 156.66. So it was like a brief shower on a summer’s day and it was gone. It feels like the Bank of Japan was sent in to check prices but did not take the advice proffered back in the day by Nils Lofgren.

(Back it up baby) I found out love just ain’t enough
I need devotion to back it up (Back it up now)
I found out love just ain’t enough (Back it up baby)
I need devotion to back it up (Back it up now)

Comment

Let us now switch to the Japanese economy and we can start with a bit of an irony.

The core consumer price index (CPI) in Tokyo, a leading indicator of nationwide figures, increased 1.6% in April from a year earlier, slowing from a 2.4% gain in March. It was much lower than a median market forecast for a 2.2% rise.Services prices rose 1.6% in April from a year earlier, slowing from 2.7% in March, due largely to the Tokyo metropolitan government’s decision to make some tuition free, the data showed. ( Reuters)

As you can see there was a government intervention via an education subsidy but the leading indicator for Japanese inflation suggests it will be below the 2% target. Looking ahead there are upwards influences from the Yen decline and higher price of crude oil but at least Japan is facing it from a lower base.

As to economic growth the Bank of Japan is more downbeat.

Comparing the projections through fiscal 2025 with those presented in the previous Outlook Report, the projected real GDP growth rate for fiscal 2023 is lower, mainly
reflecting lower private consumption due in part to the effects of the suspension of production and shipment at some automakers. The projected growth rate for fiscal 2024 is somewhat lower, given that the GDP growth rate for the second half of fiscal 2023 is expected to be fairly lower than previously projected. The rate for fiscal 2025 is more or
less unchanged.

That is a lot of words to essentially say 1% per annum and remember it thinks that is fast.

Japan’s economy is likely to keep growing at a pace above its potential growth rate.

If we take all of this in the round there are consequences. I doubt many will be reporting that at 196 versus the Japanese Yen the UK Pound £ is now above pre-Brexit levels. Plus there is the issue of the currency war between the Chinese Yuan and the Yen. Here is how the Asahi Shimburn is covering the changes.

In February, Toyosu Senkyaku Banrai, a commercial facility with more than 50 eateries, opened on Tokyo’s waterfront, adjacent to the Toyosu Market.

When the line-ups of expensive menu items were revealed, many Japanese quickly made fun of them on social media, naming them “inbaun-don” (inbound-donburi)……..

Poh Meng Quek, 52, who came from Singapore, was enjoying a 2,900-yen kaisen-don at the facility with his work colleague Suzanne Lim, 63.

“It is very nice to be able to eat fresh, delicious fish at such a reasonable price,” Poh said.

He came to Japan before the COVID-19 pandemic. This time, Poh said, it felt comparably inexpensive, which is why he was frequently splurging on a taxi.