Imputed Rent is doing its job of reducing UK consumer inflation

Today is inflation day in the UK where we receive numbers for consumer, producer and house price inflation. As there were quite a few new readers yesterday let me open today in that spirit and explain the rotten heart of the UK inflation infrastructure. It comes via the issue of the housing sector and in particular people who own their own house or flat. What this involves is paying a large sum if you are lucky enough to be able to do so or taking a mortgage and paying it off in monthly instalments over years and indeed decades or some combination of the two. This presents us with two actual numbers which can be used in the inflation process which is house prices and mortgage payments.

Instead the UK authorities have chosen to make up their own number based on what are called imputed rents. They choose to assume that someone who lives in their own property rents it out ( of course they do not) and put that rental number in the inflation figures for the index which is called CPIH. There is an obvious issue in this which is the making up of the number when you have real ones to use! Even worse they have had a lot of trouble with the rental series based on those who do rent and in fact scrapped their first effort as it went so badly. So their number series has proven unreliable but they have ploughed on anyway and if you take the case to the National Statistician I am sorry to have to tell you that the response is much more like propaganda that reasoned argument. Why do they do it? Well I doubt it is a coincidence that it leads to a lower inflation number.

The trends

We know that there was some building producer price pressure last month although September itself saw some amelioration of that as the UK Pound £ had a better month against the US Dollar ( the currency in which most commodities are priced). So it will depend on which day they did the survey. But the price of crude oil was rising and has continued to do so since September ended with Brent crude oil above US $58 per barrel as I type this so that there is some inflationary pressure again from this source.

The producer price data today indicated a sort of steady as she goes position with a hint of a dip.

The headline rate of inflation for goods leaving the factory gate (output prices) rose 3.3% on the year to September 2017, from 3.4% in August 2017…….Prices for materials and fuels (input prices) rose 8.4% on the year to September 2017, which is unchanged from August 2017.

 

What about the impact of inflation?

This sadly tends to hit the poorest the hardest as this from the BBC indicates.

Benefit freezes combined with the predicted rise in inflation could set some low-income households back £300 next year, a think tank has warned.

September’s inflation data will be released on Tuesday, and some analysts predict the Consumer Price Index (CPI) will be 2.9%……….The Resolution Foundation’s analysis found that a single unemployed person would be £115 worse off, a single parent in work with one child would be £225 worse off, and a single earner couple with two children would be £305 worse off.

You may note that the analysis concentrates on our previous inflation measure and not the new CPIH version in yet another embarrassment for the Office for National Statistics.

Today’s numbers

The headline number will capture the er headlines.

The all items CPI annual rate is 3.0%, up from 2.9% in August.

Actually it was a very marginal shift as if we look into the detail the rate was in fact 2.9593%. Also I did point out above that the CPI was what everyone still concentrates on as this from the Financial Times whose economics editor Chris Giles was one of those who argued strongly for the CPIH inflation measure shows.

How times change! Back in the day he and I were taking opposite sides at the Royal Statistical Society and it is nice to see the implied view that he now agrees with me. This leaves the Office for National Statistics somewhat short of friends for its propaganda on the subject of CPIH.

The Consumer Prices Index including owner occupiers’ housing costs (CPIH) is the most comprehensive measure of inflation.

The CPIH number gets so few mentions our statistics authority sends out its staff to get the numbers up.

You might think that after the problems with the UK trade figures I highlighted yesterday the staff there might be too busy to be on social media plugging the new inflation measure but apparently not. James has contacted me to say he is working in the prices division at the moment which gives a partial answer although if he is tweeting official information he might want to use a more accurate title.

The housing problem

Let me explain with the relevant numbers why this is an issue. Firstly let me bring the house price numbers up to date.

Average house prices in the UK have increased by 5.0% in the year to August 2017 (up from 4.5% in July 2017). The annual growth rate has slowed since mid-2016 but has remained broadly under 5% during 2017.

Now let us look at the data on which the Imputed Rental numbers for owner-occupied housing is based.

Private rental prices paid by tenants in Great Britain rose by 1.6% in the 12 months to September 2017; this is unchanged from August 2017.

Which leads to this.

The OOH component annual rate is 1.9%, unchanged from last month.

So the machinations of the UK statisticians do the following. Firstly they are using a method which reduces the annual rate of inflation from 3% to 2.8% if we use their favoured CPI series. Even worse a previous change meant that the Retail Price Index was abandoned and it is at 3.9%. Those buying a house may reasonably wonder how annual price inflation which has been circa 5% ends up reducing the inflation rate!

If you wish to follow the timing of this there was a rush late last year from the Office for National Statistics to bring CPIH ignoring some of its own guidelines as it was “not a national statistic” at that point. I did tell the National Statistician John Pullinger that doing this at a time inflation was higher but rental inflation was likely to fall ( based on wages growth) was playing with fire as regards both his personal and the body’s overall credibility in my opinion.

Comment

So we have headlines of 3% consumer inflation in the UK in spite of the official machinations to keep it below by changing the measure. The latter may strengthen in influence if London continues its pattern of being a leading indicator in this regard.

London private rental prices grew by 0.9% in the 12 months to August 2017, which is 0.7 percentage points below the Great Britain 12-month growth rate.

Those of you who pointed out that owner occupied housing would only go into UK inflation when it lowered the numbers have been proven correct so well-played.

An impact of all of this is to widen the intergenerational issue as the basic state pension will rise next year by 3% which is higher than the wage growth we have seen. Of course Bank of England pensioners will do even better as theirs are linked to the higher Retail Price Index. If we stay with the Bank of England Governor Mark Carney does not have to get out his fountain pen and headed notepaper as the remit was eased and he only has to write if it exceeds 3% on the CPI measure.

Moving onto the detail we see that there has been a strong impact from the rising price of butter we have previously looked at as the oils and fats section has risen by 14.9% on a year ago. Will we now get Imputed Butter prices?

Meanwhile our old inflation target of RPIX is at 4.1% which poses a question for the “improved” measures.

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What are the prospects for inflation ( and hence wages )?

Yesterday saw a revealing insight into the establishment view of inflation. The world economic outlook of the International Monetary Fund was in general upbeat and positive but I noted this.

The outlook for advanced economies has improved, notably for the euro area, but in many countries inflation remains weak, indicating that slack has yet to be eliminated

You may note that it ignores the possible link between lower inflation and better economic growth in its rush to tell us that inflation below some arbitrary target is a bad thing. It really is old era economic thinking to say that low inflation is a sign of slack in the economy as well. Missing also is any thought that growth and inflation are being measured badly and that perhaps we have more inflation ( for example by factoring in one of the largest parts of any budget which is housing) and less growth than the IMF would like us to believe.

The same muddled thinking is evident in this excerpt as well.

Persistently low inflation in advanced economies, which could ensue if domestic demand were to falter, also carries significant risks, as it could lead to lower medium-term inflation expectations and interest rates, reducing central banks’ capacity to cut real interest rates in an economic downturn.

Central banks capacity to cut interest-rates was mostly reduced by them cutting them so much already! If that was the weapon implied here why would they need to do it again? Also as we know some central banks have been willing to employ negative interest-rates. If we move on in a word of low wage growth then most people would welcome low inflation and low inflation expectations. If we put this another way the IMF is skirting over the implication below in its view on asset valuations.

In advanced economies, monetary policy should remain accommodative until there are firm signs of inflation returning to targets. At the same time, stretched asset valuations

What are the inflation prospects?

So far in 2017 headline consumer inflation has been really rather low. For example the CPI in the Euro area is at 1.5% and the US CPI is at 1.9%. There was something of a warning though in the latest US data if we look at some of the detail.

Increases in the indexes for gasoline and shelter accounted for nearly all of the seasonally adjusted increase in the all items index. The energy index rose 2.8 percent in August as the gasoline index increased 6.3 percent.

So let us look at the oil price trend.

Crude Oil

If we look at the price of a barrel of Brent benchmark crude oil then we see it has been rising since late June when it dipped below US $45 per barrel as opposed to the US $56.62 as I type this. There have been various factors driving this of which one has been the economic growth described by the IMF. In addition there has been this factor according to Reuters.

A pact between the Organization of the Petroleum Exporting Countries (OPEC) and other producers including Russia to cut output by 1.8 million barrels per day (bpd) in order to prop up prices is due to expire by the end of March 2018. Discussions to extend the pact are taking place, but production elsewhere is rising.

There has been doubt as to how the OPEC deal has actually held but from its point of view the last 3 months or so have been a success as the oil price has risen. The other factor is the shale oil wildcatters in the United States who will also be benefitting from the higher price for crude oil as we wait to see if they expand output. If you recall the cash flow business model for the shale oil wildcatters then 2017 has been a good year as income will have been strong as we note higher prices are being accompanied by this.

U.S. producers are not participating in any pledge to restrain supply, and output has risen by 10 percent this year to over 9.5 million bpd.

Other Commodities

Reuters calculates a commodity price index which is currently at 183.2 which is just under 4% lower than a year ago albeit like in the oil price there has been a rise since late June. Back then it had dipped to 166.5. If we look at the index which excludes energy prices we see that there is a familiar if more subdued pattern as it has risen from just below 116 to 123.6 now.

If we look at metals prices we see Metal Bulletin reporting this today.

The underlying trends in the base metals are upward but those metals in or near high ground seem to be having to absorb selling which is capping the upside, while copper and nickel prices that are still some way below the highs seem to be having an easier time working higher, but neither seems in any rush. We remain quietly bullish, but expect trading to become choppier as prices run into more bouts of scale-up selling.

Dr.Copper had seen quite a surge as a year ago it was US $2.17 as opposed to the US $3.06 now as we wait to see the next move. I guess churches will be nervous about their copper pipes and roofs again. By contrast the Iron Ore price has been heading south at a rapid rate recently and this morning has fallen below the US $60 mark.

Benchmark Australian iron ore fines dropped 4.1% Tuesday to a three-month low of $59.1 a tonne, based on data provided by The Steel Index, taking losses since the start of September to more than 20%. ( Mining.com)

They attribute the fall to this factors.

Iron ore prices continued their downward trend Tuesday amid ongoing concerns that looming steel production cuts in China on environmental grounds will sap steel mill demand……..At the same time, supply from Australia — the world’s No. 1 iron ore producer — has risen,further pressuring prices.

Food Prices

The United Nations calculates an index for this.

The FAO Food Price Index* (FFPI) averaged 178.4 points in September 2017, up 1.4 points (0.8 percent) from August and 7.4 points (4.3 percent) above September 2016. Firmer prices in the vegetable oil and dairy sectors were behind the small month-on-month rise in the value of the FFPI.

So a rise overall which is influenced by the 27% rise in dairy prices over the past year as we note the influence of the butter shortage. Mind you if you have a sweet tooth and are a Maroon 5 fan the news is much better as the sugar price has fallen by 33% over the past year.

Comment

We see that there has been a nudge higher in the beginnings of the inflation food chain over the past 3 months or so. Much of this has been the higher oil price but there have been rises in some metal prices too although not Iron Ore. However whilst the trend is low especially for this stage in the economic cycle it can still be damaging. The rising cost of one of the basic essentials ( housing/shelter ) in many places is mostly ignored and at other times claimed as growth. Secondly the fact is that wage growth is overall low too so that pockets of real wage growth are also much less abundant that we would usually expect in a boom. If the IMF gets the inflation it seems to want there is no guarantee that wages would rise as well so it would have made us all worse off.

So in essence if we look at food and energy prices they are the major players in the consumer inflation measures we have and of course the central banks and IMF try to ignore them as “non-core.” Oh well…….

 

A solid day for the UK economy or another trade disaster?

Today has opened with some positive news for the UK economy. The opening salvo was fired just after midnight by the British Retail Consortium.

In September, UK retail sales increased by 1.9% on a like-for-like basis from September 2016, when they had increased 0.4% from the preceding year……..On a total basis, sales rose 2.3% in September, against a growth of 1.3% in September 2016. This is above the 3-month and 12-month averages of 2.1% and 1.7% respectively.

So we have had 2 months now of better news on this indicator although it is a far from perfect guide to the official data series mostly because it combines both volumes and prices as hinted below.

September saw a second consecutive month of relatively good sales growth which should indicate welcome news for retailers and the economy alike. Looking beneath the surface though, we see that much of this growth is being driven by price increases filtering through, particularly in food and clothing, which were the highest performing product categories for the month.

Anyway for all the talk of price increases if you look at the figures they cannot have been that high and we have also got a small bit of good news on that front. From the BBC.

Car insurance premiums have dipped for the first time in more than three years, but the respite for drivers will be short-lived, analysis suggests.

Prices fell by 1%, or £9, in the third quarter of the year compared with the previous three months, according to price comparison website Confused.com.

Tourism

The lower value of the UK Pound £ seems to have given the UK economy something of a boost as well.

Tourism is booming in the UK with nearly 40 million overseas people expected to have visited the country during 2017 – a record figure.

Tourist promotion agency VisitBritain forecasts overseas trips to the UK will increase 6% to 39.7 million with spending up 14% to £25.7bn this year.

Also we seem to be holidaying more at home ourselves.

Britons are also holidaying at home in record numbers.

British Tourist Authority chairman Steve Ridgway said tourism was worth £127bn annually to the economy……From January to June this year, domestic overnight holidays in England rose 7% to a record 20.4 million with visitors spending £4.6bn – a rise of 17% and another record.

Over time this should give a boost to the UK trade figures which feel like they have been in deficit since time began! Especially if numbers like the one below continue.

Spending on UK debit cards overseas was down nearly 13% in August compared with the same month in 2016.

Production

If we move to this morning’s official data series we see that production is in fact positive.

In August 2017, total production was estimated to have increased by 0.2% compared with July 2017………In the three months to August 2017, the Index of Production was estimated to have increased by 0.9%……Total production output for August 2017 compared with August 2016 increased by 1.6%.

It is being held back by North Sea Oil & Gas output.

The fall of 2.0% in mining and quarrying was due mainly to oil and gas extraction, which fell by 2.1%. This was largely due to maintenance during August 2017.

The maintenance season is complex is we had a good June followed by weaker months so we do not know if this is part of the long-term decline in the area or simply the ebb and flow of the summer maintenance schedule.

Tucked away in the revisions was some good news as new data sources raised the index for the second quarter of 2017 from 101.6 to 102.1. We also saw a continuing of the trend towards services as production’s weighting in the UK economy fell from 14.65% to 13.95% or another example of the trend is your friend.

Manufacturing

This was the bright spot in the production data set with it rising by 0.4% on a monthly basis and by the amount below on an annual one.

with manufacturing providing the largest upward contribution, increasing by 2.8%

We actually beat France (2.7%) on a year on year and monthly basis which poses food for thought for the surveys telling us it was doing “far,far better ” as David Byrne would say. A driver of this is shown below and the numbers are on a three-monthly basis.

other manufacturing and repair provided the largest contribution, rising by 3.8%, due mainly to an increase of 13.1% in repair and maintenance of aircraft and spacecraft.

We are repairing spacecraft, who knew? If we look at the pattern we see that the official data seems to be catching up with what had previously been much more optimistic survey data from the CBI and the Markit business surveys.

Here is the overall credit crunch era situation which is now a little better than we thought before due to revisions and the recent manufacturing growth.

both production and manufacturing output have risen but remain below their level reached in the pre-downturn gross domestic product (GDP) peak in Quarter 1 (Jan to Mar) 2008, by 6.9% and 3.0% respectively in the three months to August 2017.

Construction

There were even some better numbers from this sector.

Construction output grew 0.6% month-on-month in August 2017, predominantly driven by a 1.7% rise in all new work……Compared with August 2016, construction output grew 3.5%

However I have warned time and time again about this data set and tucked away in the detail was a clear vindication of my scepticism.

The annual growth rate for 2016 has been revised from 2.4% to 3.8% and the leading contribution to this increase is infrastructure, which itself has been revised from negative 9.2% to negative 3.2%.

The ch-ch-changes are far too high for this series to be taken that seriously and this is far from the first time that this has happened.

Trade

This invariably brings bad news as here we go again.

Between the three months to May 2017 and the three months to August 2017, the total UK trade (goods and services) excluding erratic commodities deficit widened by £2.9 billion to £10.8 billion.

The bit that has me bothered about this series apart from its “not a national statistic” basis is this when we have reports from elsewhere that exporting is doing well as we have seen earlier today from the manufacturing and tourism news.

total trade (goods and services) exports decreased by 1.4% (£2.1 billion) ( in the latest 3 months).

Also it is hard to have much faith in primary income and investment position data which has been revised enormously especially in the latter case. I know we have got used to large numbers but a change of £500 billion?

The trade figures themselves have been less affected but surely the tuition fees change was known and should have been anticipated?

The biggest revision is in 2012 (£4.0 billion), with the inclusion of tuition fees having the greatest impact, followed by the inclusion of drugs data into the estimates of illegal activities.

Comment

Let us start with the good news which is that the data in the last 24 hours for the UK economy has been broadly positive. This is especially true if we compare it with the REM style “end of the world as we know it” which manifests itself in so much of the media. Also it is good that the UK Office for National Statistics has a policy of reviewing and trying to improve its data.

The bad news is that some of the large revisions lately bring into question the whole procedure. I mentioned last week the large upwards revision in UK savings which changed the picture substantially there which was followed by unit on labour costs being estimated as growing annually by 1.6% and then 2.4%. We now look at the construction sector which has given good news today and the balance of payments bad news. Both however have seen such large revisions that the true picture could be very different.

It is hard to believe that even those in the highest Ivory Towers could have any faith in nominal GDP targeting after the revisions but it pops up with regularity.

 

The stability of the UK economy is quite remarkable

Today gives us another opportunity to take a look under the engine cover of the UK economy and to do so considering the stated position of the Bank of England.

If the economy continues on the track that it’s been on… we can expect interest rates would increase somewhat.

Those were the words of Bank of England Governor Mark Carney on the BBC’s Today programme on Radio Four last week. Listeners will have been wondering if it will be third time lucky for his “Forward Guidance” as he has tried this tack before? More tucked away at the end of last week was a consequence of the actions of Governor Carney and his colleagues in August 2016 when they cut Bank Rate to 0.25% added a “Sledgehammer” to the QE ( Quantitative Easing ) programme and added a soupcon of credit easing with the Term Funding Scheme. Please remember the implications of giving banks cheap funding as you read this from the BBC about the interview with Governor Carney.

“What we’re worried about is a pocket of risk – a risk in consumer debt, credit card debt, debt for cars, personal loans,” he told BBC Radio 4’s Today Programme.
He said banks had “not been as disciplined as they should be” in their underwriting standards and pricing of this debt.

How is that going?

This is the data up to the end of August from the Bank of England.

The annual growth rate of consumer credit remained at 9.8%, with a flow of £1.6 billion in August.

As you can see this is a triumph for the “Sledgehammer QE” of Chief Economist Andy Haldane who wanted precisely this. Oh hang on sorry, it is now the result of unexpected behaviour by the banking system and is a worry for the Bank of England.

Also we see that monetary growth has picked up more generally.

Broad money increased by £16.6 billion in August (Table A), the highest flow since September 2016. Within this, flows for all sectors were positive (Tables B-D) with the largest contribution from non-intermediate other financial corporations (NIOFCs) (Table D).

The monthly numbers are very erratic but this was a surge but the overall picture remains one of strong unsecured credit growth and growth in the wider aggregates that may be picking up again. What is in doubt is the mix that this monetary growth will provide between economic growth and inflation but it suggests that if inflation is 3% economic growth will be 2%.

Remember when we were told that all of this was for smaller businesses or SMEs? Well lending to smaller businesses fell by £200 million in July and £100 million in August.

Business Surveys

Today saw the last of the PMI business surveys for the UK and it was a case of steady as she goes.

The headline seasonally adjusted IHS Markit/CIPS Services PMI® Business Activity Index posted 53.6 in September, up from an 11-month low of 53.2 in August. Looking at Q3 as a whole, growth has eased slightly since the previous quarter (the index averaged 54.3 in Q2, compared to 53.5 in Q3).

So the changes are much less that the likely error term. This was reflected in the overall picture described.

The three PMI surveys put the economy on course for another subdued 0.3% expansion in the third quarter, but the fourth quarter could see even slower growth.

Markit have a default setting of downbeat on the UK economy which is a switch of sorts as they used to treat France like that. But there is an interesting perspective in the detail of their report.

The rise in price pressures will pour further fuel on expectations that the Bank of England will soon follow-up on its increasingly hawkish rhetoric and hike interest rates. However, the decision is likely to be a difficult one, as the waning of the all-sector PMI in September pushes the surveys slightly further into territory that would normally be associated with the central bank loosening rather than tightening policy.

The inflation picture

We learnt more about this at midnight from the British Retail Consortium or BRC.

In September, Shop Prices reached the shallowest deflation level in the last four years of 0.1%, with prices falling just 0.1% compared to a 0.3% year-on-year decline in August. Non-Food price deflation accelerated to 1.5% in September, from 1.3% in August, although Non-Food prices are less deflationary than in September 2016, when they had fallen 2.1% year on year. Food prices increased in September to 2.2%, up from 1.3% in August.

So food prices are rising but other prices are falling as we seem set to shift from disinflation to inflation in the retail sector although the BRC gets itself into quite a mess on this subject.

Overall shop price deflation reached an all-time low in September with prices now teetering on the edge of inflation.

The food inflation is being driven by butter prices ( a worldwide issue presumably leading to happy days in New Zealand) and on a personal level I note that the rises in the price of broccoli we looked at a while back don’t seem to have reversed much if at all.

Government policy

We should find out more later about this. We are already expecting a boost to the Help To Buy scheme which has led to this.

3,858 first time buyers earning over £100k appear to have had Help2Buy…  ( @HenryPryor )

Also the mind boggles as to what the with a household income below £20,000 per annum were able to buy! Maybe it’s because I am a Londoner………

Also the new £10 billion will be an expansion on what has gone so far ( figures to June 2017).

The total value of these equity loans was £6.72 billion, with the value of the properties sold under the scheme totalling £32.37 billion.

Perhaps we will see more emphasis on social housing later as well.

Comment

Imagine you are an “unreliable boyfriend” what is the worst scenario? It is of course the sort of stability that the UK economy seems to be providing as it seems fairly likely that the first three-quarters will each provide GDP ( Gross Domestic Product) growth of 0.3%. Of course the unreliable boyfriend in question will be hoping we forget his Forward Guidance for what 2017 would be like and instead focusing on his heroic efforts which prevented that. The same heroic efforts he now hints he will reverse. As he spins like a top we are reminded that in monetary policy of a version of  the Bananarama critique.

It ain’t what you do it’s the way that you do it
It ain’t what you do it’s the way that you do it
It ain’t what you do it’s the way that you do it
And that’s what gets results

Putting UK interest-rates back where they were clearly suggests that they should never have been cut in the first place. Even worse an unsecured credit boom has been fed. Oh and even the ratings agencies are raising the issue of credibility.

S&P troll BOE

S&P: WE BELIEVE RECENT STATEMENTS BY BOE AND CARNEY ARE PRIMARILY AIMED AT PROPPING UP GBP TO REDUCE IMPORTED INF PRESSURES ( @stewhampton )

Who owns the Swiss National Bank?

A feature of pretty much any discussion about a central bank is that someone invariably pops up and claims that it is privately owned. This comes with the implication that dark forces are at work. Mostly it is simply not true but there are some cases which give food for thought and one of those is the case of the Swiss National Bank. You see it is possible to purchase a share in its equity capital and so far this morning some 14 shares have traded with the current price being 3965 Swiss Francs. If dark forces are at play this morning they have a lot of work to do as we look at the equity capital according to the

The share capital of the National Bank amounts to 25 million Swiss francs. It is divided into 100,000 registered shares with a nominal value of 250 Swiss francs each. The shares are fully paid up.

Also to have any real power you would either need to mislead the regulations or be part of a group as there is a limit to how many voting shares an individual can hold.

A shareholder’s registration is limited to a maximum of 100 shares. This limitation shall not apply to Swiss public-law corporations and institutions or to cantonal banks pursuant to Article 3a of the Federal Act of 8 November 19341 on Banks and Savings Banks.

Mind you as Swissinfo.ch pointed out a year ago not everyone is bothered by this.

The prime suspect is Theo Siegert, a German professor and business expert who sits on the boards of numerous companies. Siegert owned 6.6% of the share capital of the SNB at the end of last year, making him the second-largest shareholder behind the canton of Bern.

If we move to policy we see that we have a curious situation as of course investors are buying shares in what these days is a hedge fund which holds a lot of equities. This particular hedge fund has some 747 billion Swiss Francs in foreign currency investments of which around 20% is in equities.

Swissinfo.ch updated us a year ago on who owned the shares back then.

Cantons own 45% of stock, cantonal banks 15% and private investors (individuals or institutions) the remaining 40%.

What has happened?

The share price has given the impression that as Todd Terry would put it there is “something going on”. Here is the Wall Street Journal from the 21st of September.

Less than a month after its stock smashed through the 3,000-franc-a-share barrier, SNB shares hit an intraday high of 4,324 on Wednesday and were trading as high as 4,600 on Thursday. The stock has tripled in value from a year ago, repeatedly confounding market watchers by regularly hitting records.

So far this year, SNB shares are up about 160%, compared with an 11% gain for the SMI stock-market index of Swiss blue-chip companies. The broader Stoxx Europe 600 is up only 5.7% on the year.

If we look back the share price was in recent years mostly between 1000 and 1100 Swiss Francs so something has changed. The first wave was in August and September last year when the price rose to 1750 Swiss Francs and the next began towards the end of July when the 2000 Swiss Franc barrier was broken. As you can see progress was swift after that. Rather an irony to see a central bank share price surge like well “a boy in a bubble” isn’t it?

Backing

There is a dividend payment as shown below.

 

Subject to the Annual General Meeting’s approval of the proposed profit appropriation, a dividend not exceeding 6% of the share capital is to be paid from net profit (art. 31 para. 1 NBA). The dividend is CHF 15 (gross) and CHF 9.75 (net) per share, after deduction of withholding tax.

Interestingly the SNB itself feels that its shares should be traded like a bond.

Due to the legally stipulated maximum dividend of 6%, the price of the SNB share usually develops along similar lines to a long-term Confederation bond with a 6% coupon.

That gives us grounds for a surge in the price but leaves us with an awkward timing problem. The Swiss ten-year government bond yield went negative at the beginning of 2015 and it is currently 0%. So everybody was asleep at the wheel for quite some time.

The SNB as an equity investor

Here is @stocknewstimes and these tweets are from this morning.

Swiss National Bank boosted its stake in Bright Horizons Family Solutions Inc. (NYSE:BFAM) by 7.8% during the 2nd quarter………..SwissNationalBank Boosts Stake in Bright Horizons Family Solutions Inc. …….SwissNationalBank Boosts Holdings in The Madison Square Garden Company

You get the picture but how is this going? Well here is the Financial Times today.

Japan’s stock market hit a two-year high on Tuesday following fresh records set overnight in New York.

So equity investors are singing along with the band Chic.

Good times, these are the good times
Leave your cares behind, these are the good times
Good times, these are the good times
Our new state of mind, these are the good times

As a very large equity investor the SNB must be cheering from the sidelines and a weaker phase for the Swiss Franc only adds to the party. We do not know how holdings have performed but we are looking at a company with around 150 billion Swiss Francs of overseas equities at a time of all time highs for stock markets. Suddenly we have a potential rationale for buying shares in the Swiss National Bank.

Comment

Let us now move to the public side of the SNB where it sets interest-rates ( currently -0.75%) and monetary policy for Switzerland. This sits rather oddly with the private shareholders. They might be looking for a bond coupon as they are in short supply to say the least in modern-day Switzerland. Much more likely is that eyes are on the profits from the equity investments in particular. It is hard not to think of the phrase “socialisation of losses and privatisation of profits” at this point.

As to getting their hands on it the issue poses formal problems as profit distributions are for the public-sector. From Reuters.

For 2016 it paid 1.7 billion francs to the federal government and cantons. Remaining profit went into SNB reserves.

However according to Reuters some seem to think they have a chance of changing the rules.

A group of private shareholders proposed changing the bank’s rules to allow a higher payment, saying the bank’s foreign currency purchases had diluted the value of the Swiss franc.

“Our proposal aims to demonstrate the dilution of the purchasing power of the Swiss franc following the seven-fold increase in the SNB’s balance sheet since the financial crisis,” said shareholder Blaise Rossellat.

Has nobody told them that rule changes are only for central banks themselves? Or rather the rules get “interpreted” along the lines so memorably described in Yes Prime Minister “they didn’t seem quite appropriate.”

So we have two routes here I think which can be interrelated. Someone may have “high- ticked” the shares to get a reaction. This would most logically be done by an existing investor but may have been someone who was simply bored. The next is that some think they have a solid chance of changing the rules and actually benefitting from the gains of the SNB. Of course they are at this stage almost entirely paper profits but that does not bother people in so many other areas. This simultaneously has everything and nothing to do with monetary policy as we mull yet another series of unintended consequences. The investors must be hoping that the words of Tom Petty do not turn out to be appropriate.

I’m learning to fly, around the clouds
But what goes up must come down.

RIP Tom and thank you for the music.

The UK gets an upgrade and a downgrade in a single day

The weekend just past saw plenty of action but my concentration is on Friday. As you see there were two clear events which operated in opposite directions in terms of views on the UK economy.  Let me open with the one which was reported much less but is in line with one of the themes of this blog which is that economic statistics are much less reliable that many would have you believe. From the Office for National Statistics ( ONS) on Friday morning.

The impact of the new data is largest in 2015 due to forestalling in advance of an increase in tax on dividends; the dividends revision in 2016 will be published on 29 September 2017.

Okay if you recall we thought that was happening back then but wait until you see the new estimate of the impact.

In 2015, the indicative estimate of the household and NPISH (non profit institutions serving households) saving ratio is 9.2%, revised up from the latest published value of 6.5%. The indicative estimate for growth in real household and NPISH gross disposable income is 5.3%, revised up from the latest published value of 3.6%.

Let me start with the savings issue where an extra £41.6 billion of household savings have been found in 2015. In terms of light entertainment we see that “Improvements to Illegal Activities” were £1.6 billion of that where apparently people are doing these to build a savings nest egg. Also as rent and imputed rent total some £1.9 billion I am left wondering how much imputed rent which is of course never received as it is a theoretical construct is saved? Of course Sir Charles Bean will be disappointed as well because it previously looked as though people might have listened to his calls for people not to save whereas now it looks like he was ignored.

But more seriously this update changes the whole trajectory of the UK economy as on this ratio the savings ratio has been ~9% since 2011. This is rather different to the previous number of slightly under 9% declining to 6.1%! If we move to economics we see that those who do sectoral equations and assure us that they cannot be wrong have a problem as if one bit is larger another has to be smaller. For example the ONS now think that UK companies borrowed some £41.1 billion less than in 2015 than previously reported.

Also we should note that disposable income rose considerably more quickly than previously reported.

Surpluses everywhere!

If we move to trade we see yet another example of what would have Lindsey Buckingham singing ” I think I’m in trouble”. From the Financial Times.

 

Statisticians are investigating the delicate matter of why the trade balance between the UK and the US does not balance. At various times over the past decade, the UK and the US have both simultaneously recorded a trade surplus with each other.

Excellent isn’t it? Imagine a world where in football matches both teams win!

 

Last year, for example, the UK claimed a £10bn goods trade surplus with the US, according to official statistics, while the US said it had recorded a surplus of $1bn.

Actually the real problem is below and regular readers will be aware that I have pointed out time and time again that the UK services data leaves a lot to be desired.

 

In services, COMTRADE, the UN trade statistics database, shows that the US claims a services trade surplus of $13bn with the UK, which claims a services surplus of more than $34bn with the US.

Either the FT journalists are unaware of or chose not to report this.

The UK Statistics Authority suspended the National Statistics designation of UK trade on 14 November 2014.

Oh and the US figures may be as bad it is just that I have spent quite a bit of time looking at the problems in the UK.

Moodys

More publicised in spite of the fact it was not produced until late Friday evening UK time was this.

Moody’s expects weaker public finances going forward, partly linked to the economic slowdown under way but also reflecting the increasing political and social pressures to raise spending after seven years of spending cuts.

Which led according to their analysis to this.

Moody’s Investors Service, (“Moody’s”) has today downgraded the United Kingdom’s long-term issuer rating to Aa2 from Aa1 and changed the outlook to stable from negative.

It was a little awkward for them to forecast weaker public finances in a week which had seen better numbers released but some of the arguments seem sound. For example a minority government is likely to spend more than a majority one. Also they expect the UK economy to continue to be on a weaker trajectory.

Growth has slowed in recent months, with average quarterly growth of just 0.26% in the first two quarters, versus an average of 0.6% over the 2014-2016 period.

That puts them in conflict with the Bank of England which of course is now expecting a bit of a pick-up. If we look at track records we are left with problem that neither have a good track record, can they both be wrong? Also after the problems with statistics we have already looked at today can one state the sentence below with any confidence?

Private consumption has slowed sharply and business investment has been weak since 2016, most likely linked to the Brexit-related uncertainty.

In essence though the opinion and downgrade has been driven by this view.

Moody’s is no longer confident that the UK government will be able to secure a replacement free trade agreement with the EU which substantially mitigates the negative economic impact of Brexit.

Comment

Let us start with Moodys where there is some sense to be found in their view of public expenditure I think. The pattern looks set to be higher due to the consequences of minority government and that is consistent with ratings agencies often picking out useful bits of detail. Their problem is their tendency to be behind the times and of course the existence of a credit crunch driven by them labelling instruments as “AAA” which were anything but. If we move to financial markets we see something which shows what power they now have. If you project a worse fiscal position then you would expect bond yields to rise in response whereas at the time of typing this the UK 10 year Gilt yield has fallen to 1.33%. Or perhaps the currency to fall? Not that either as it has moved back above US $1.35 and Euro 1.13.

If we move back to economics the problems are very serious for those who base their work only on statistics and equations. You see it is not only the future which is uncertain it is the present and past too. There is no Dune style Bene Gesserit for the past nor a Muad-Dib for the future. Those who tell you that an economic variable has to be something because of what another is should be made to face a critique every time. This brings me to something which regularly comes back into fashion like a weed in a garden which is targeting nominal GDP ( Gross Domestic Product). This will require adjusting policy based on a variable which is often wrong and sometimes very wrong.

As to the specific data for the UK we saved more in the period up to 2015 which means that more recent figures come from a stronger base. How much the more recent ones will be revised is hard to say as you see some of the changes today have happened in the last month.

Knee Op

After the false dawn of a fortnight ago I am booked in for tomorrow morning for my ACL reconstruction so I will be taking a break of at least a couple of days. On that subject let me wish Billy Vunnipola  well as at least I managed more than 20 years between incidents.

 

 

 

Can QE reductions co-exist with the “To Infinity! And Beyond! Critique?

Today looks set to take us a step nearer a change from the world’s major central bank. Later we will here from the US Federal Reserve on its plans for a reduction in its balance sheet. If we look back to September 2014 there was a basis for a plan announced.

The Committee intends to reduce the Federal Reserve’s securities holdings in a gradual and predictable manner primarily by ceasing to reinvest repayments of principal on securities held in the SOMA.  ( System Open Market Account).

Okay so what will this mean?

The Committee expects to cease or commence phasing out reinvestments after it begins increasing the target range for the federal funds rate; the timing will depend on how economic and financial conditions and the economic outlook evolve.

So we learnt that it planned to reduce its balance sheet by not reinvesting bonds as they mature. A sensible plan and indeed one I had suggested for the UK a year before in City AM. Of course back then they were talking about doing it rather than actually doing it. Also there was a warning of what it would not entail.

.The Committee currently does not anticipate selling agency mortgage-backed securities as part of the normalization process, although limited sales might be warranted in the longer run to reduce or eliminate residual holdings. The timing and pace of any sales would be communicated to the public in advance

Thus we were already getting the idea that any such process was likely to take a very long time. This was added to by the fact that there is no clear end destination.

The Committee intends that the Federal Reserve will, in the longer run, hold no more securities than necessary to implement monetary policy efficiently and effectively, and that it will hold primarily Treasury securities.

This was brought more up to date this June when we were told that any moves would be in what are baby steps compared to the US $4.5 trillion size of the balance sheet.

For payments of principal that the Federal Reserve receives from maturing Treasury securities, the Committee anticipates that the cap will be $6 billion per month initially and will increase in steps of $6 billion at three-month intervals over 12 months until it reaches $30 billion per month.

They will do the same for mortgage-backed securities except US $ 4 billion and US $20 billion are the relevant amounts. But as you can see it will take a year to reach an annual amount of US $0.6 trillion. Thus we reach a situation where balance sheet reduction can in fact be combined with another chorus of “To Infinity! And Beyond!” Why? Well unless they have ended recessions then the reduction seems extremely unlikely to be complete until it is presumably being expanded again. Indeed for some members of the Federal Reserve this seems to be the plan. From the Financial Times.

 

Mr Dudley has said he expects the balance sheet to shrink by roughly $1tn to $2tn over the period, from its current $4.5tn. This compares with an increase of about $3.7tn during the era of quantitative easing.

The ECB

There was a reduction in monthly QE purchases from the European Central Bank from 80 billion Euros to 60 billion which started earlier this year. But so far there has been no announcement of more reductions and of course these are so far only reductions in the rate of increase of its balance sheet. Then yesterday there was a flurry of what are called “sauces”.

FRANKFURT (Reuters) – European Central Bank policymakers disagree on whether to set a definitive end-date for their money-printing programme when they meet in October, raising the chance that they will keep open at least the option of prolonging it again, six sources told Reuters.

Of course talk and leaks are cheap but from time to time they are genuine kite flying. Also there is some potential logic behind this as the higher level of the Euro has reduced the likely path of inflation and the ECB is an institution which takes its target seriously. Now the subject gets complicated so let me show you the “Draghi Rule” from March 2014,

Now, as a rule of thumb, each 10% permanent effective exchange rate appreciation lowers inflation by around 40 to 50 basis points.

So the Euro rally will have trimmed say 0.3% off future inflation. However some are claiming much more with HSBC saying it is 0.75% and if so no wonder the ECB is considering a change of tack. Mind you if I was HSBC I would be quiet right now after the embarrassment of how they changed their forecasts for the UK Pound £ ( when it was low they said US $1.20 and after it rallied to US $1.35 they forecast US $1.35!).

This is something of a moveable feast as on the 9th of this month Reuters sources were telling us a monthly reduction was a done deal. But there is some backing from markets with for example the Euro rising above 1.20 versus the US Dollar today and it hitting a post cap removal high ( remember January 2015?) against the Swiss Franc yesterday.

As we stand the ECB QE programme amounts to 2.2 trillion Euros and of course rising.

The Bank of England

We see something of a different tack from the Bank of England as it increased its QE programme last August and that is over. But it is working to maintain its holdings of UK Gilts at £435 billion as highlighted below.

As set out in the MPC’s statement of 3 August 2017, the MPC has agreed to make £10.1bn of gilt purchases, financed by central bank reserves, to reinvest the cash flows associated with the maturities on 25 August and 7 September 2017 of gilts owned by the Asset Purchase Facility (APF).

Today it will purchase some £1.125 billion of medium-dated Gilts as part of that which may not be that easy as only 3 Gilts are now eligible in that maturity range.

However tucked away in the recent purchases are an intriguing detail. You see over the past 2 weeks the Bank of England has purchased some £1.36 billion of our longest dated conventional Gilt which runs to July 2068. So if Gilts only ever “run off” then QE will be with us in the UK for a very long time.

The current Bank of England plan such as it is involves only looking to reduce its stock of bond holdings after it has raised Bank Rate an unspecified number of times. I fear that such a policy will involve losses as whilst the rises in the US have not particularly affected its position there have been more than a few special factors ( inflation, North Korea, Trumpenomics…), also we would be late comers to the party.

The MPC intends to maintain the stock of purchased assets at least until the first rise in Bank Rate.

Will that be like the 7% unemployment rate? Because also rise from what level?

at least until Bank Rate has been raised from its current level of 0.5%.

Comment

As you can see there is a fair bit to consider and that is without looking at the Bank of Japan or the Swiss National Bank which of course has if its share price is any guide has suddenly become very valuable. We find that any reduction moves are usually small and much smaller than the increases we saw! Some of that is related to the so-called Taper Tantrum but it is also true that central banks ploughed ahead with expansions of their balance sheets without thinking through how they would ever exit from them and some no doubt do not intend to exit.

The future is uncertain but not quite as uncertain as central banks efforts at Forward Guidance might indicate. So if we address my initial question there must be real fears that the next recession will strike before the tapering in the case of the ECB or the reductions of the US Federal Reserve have got that far. As to my own country the Bank of England just simply seems lost in its own land of confusion.