The UK bond market does not believe the Bank of England

Yesterday we heard quite a bit from policymakers at the Bank of England. But before we get to it the economic world it faces has changed in a couple of important respects. One I pointed out on Twitter in the morning.

The UK ten-year yield has fallen below 3% this morning as UK borrowing costs continue to tumble…

So the “Black Hole” in UK public finances if it ever existed is now smaller. Also a subject which was in the news has seen some radio silence. For out purposes if we switch to the fifty-year yield at 2.84% we can borrow much more cheaply. Quite a few castles in the sky have crumbled which is probably why we are not hearing much. It is taking its time to feed into mortgage rates but it is beginning.

Mortgage rates on five-year fixed deals have dipped below 6 per cent for the first time in nearly two months…….The average rate on a five-year fixed-rate mortgage fell to 5.95 per cent on Tuesday, the lowest level since early October, according to data provider Moneyfacts. ( Financial Times).

As ever the declines come more slowly than the rises but more have happened since Tuesday so it is in play now. On this road we see something else which is really rather awkward for those who claimed that the Bank of England lost £65 billion when it intervened in the UK Gilt market as long-dated yields soared. Its £19.3 billion holding is on quite a nice profit as we stand and they start selling next week.

Next up is quite a change for the UK Pound.

GBP through 1.21 ( @CNBCJou )

This is really rather different to the panic around US $1.03 which was rather short lasting as we have seen a change in the strength of the US Dollar. The move if sustained will help in bringing inflation down as we have to pay less for commodities and especially in an energy crisis oil and gas.There is an old Bank of England rule of thumb for this and it suggests that the equivalent tightening of monetary policy is of the order of a 1.25% increase in Bank Rate.

Speeches

On Wednesday Chief Economist Huw Pill spoke to the Institute of Directors and got himself in rather a tangle again.

By the autumn of 2021, the need to start tightening the monetary policy stance was becoming more evident as those new inflationary shocks mounted.

So evident in fact he did nothing about it! Then we got this.

Behind the labour market tightness lies a decline in participation rates among the working age population, particularly those in the 50-65 age group………rising inactivity among the working age population represents an adverse supply shock, which adds to the difficult shorter-term trade-offs facing monetary policy.

This is an issue we have looked at and Huw wants to use it as an excuse for failed monetary policy but he hit trouble the very next morning.

Overall, net migration continued to add to the UK population in the YE June 2022, with an estimated 504,000 more people arriving long-term to the UK than departing. ( Office for National Statistics)

As you can see the potential labour supply situation was looking rather different and Huw yet again was in a tangle.

Bank of England Watchers Conference

Here Sir David Ramsden spoke although he prefers to be called Dave. He opened with something of a tale of failure.

Inflation is now expected to peak at 10.9% in 2022Q4,
over three times higher than was forecast only a year ago,

Actually it has already reached 11.1% but I guess Dave has been playing with his set of economic models again. Also why should anyone take much note of a body which has just been so wrong?

before falling sharply from the middle of 2023, to well below target by 2024Q4.

After all they are confessing to have been completely wrong about economic growth as well.

With the economy already likely to be in a recession which is forecast to be prolonged, GDP growth is negative in the year to 2023Q4 and 2024Q4, to 7.5 per cent below what was forecast a year ago.

Just to complete the set they were also completely wrong about the labour market.

Despite much weaker growth, unemployment looks likely to be lower in 2022Q4 than was forecast a year ago
and wage growth is forecast to be much higher, 5 ¾% compared with 1 ¼%.

As the World Cup is in we can look at this in the light of a football manager any of whom would have been sacked ages ago for such performances. But it is an other worldly place highlighted by the fact that Dave is the Bank of England “markets man” despite having zero experience of working in one.

He thinks he is looking decisive here but he is merely illustrating my point that making larger increases later is a signal of failure.

As the MPC has become increasingly focused on the prospect of more persistence in inflation, it has tightened policy more sharply. In the five meetings from December 2021 to  June 2022, Bank rate was increased by 1.15 percentage points in total. In the three meetings from August 2022 to November 2022 Bank rate has been increased by a cumulative 1.75 percentage points.

Then we get to something that makes me wonder if he has been reading me?

We have increased Bank Rate very rapidly over the last year and on past experience a change in interest
rates has its peak impact on inflation only after around 18-24 months. But it is possible that the increased proportion of households on fixed rate mortgages means the full effect of policy takes longer to come through and/or is larger when it does, such that inflation comes down more quickly through 2023.

Actually there is one divergence and that comes from his maths as the move is more likely in early 2024. It is quite a critique of the Bank of England and central banks generally.

What next? He wants us to think he is keen on more.

then I expect that further increases in Bank rate are going to be required to ensure a sustainable return of inflation
to target. Considerable uncertainties remain around the outlook and if the outlook suggests more persistent inflationary pressures then I will continue to vote to respond forcefully.

The next bit can be taken two ways. The first is that he is at least being honest and the second is that he wanted to pre-empt someone else pointing it out. Here he is from February.

“I do not envisage Bank rate rising to anything
like its pre-2007 level of 5%, let alone to the kind of levels we used to see before the MPC was formed in 1997”

Comment

The first issue is why was I not at a Bank of England “watchers” conference? Easy as I was not invited. Switching to policy there is a simple logical problem. If you tell people about a “prolonged recession” and revise your GDP growth path down by 7.5% then you are going to see bond markets look ahead to future interest-rate cuts. All the rhetoric in the world will not change that. Putting it another way the ten-year yield was the same as Bank Rate yesterday morning meaning they expect that the interest-rate rise in December ( 0.5%?) and any subsequent ones will be reversed.

Markets ebb and flow and the ten-year yield is 3.1% as I type this. But the Bank of England faces an issue created by its own forecast of a severe recession which was created by its assumption of a 5.25% Bank Rate.

Actually the real player is a combination of energy prices and what the weather does this winter.

 

 

 

 

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Are the Swedes back to being sadomonetarists?

This week has been one where many of our themes are in play but we can start with a reference to a claim by Paul Krugman of the New York Times about the Riksbank of Sweden.

“At least as I define it, sadomonetarism is an attitude, common among monetary officials and commentators, that involves a visceral dislike for low interest rates and easy money, even when unemployment is high and inflation is low,”

That statement did affect the Riksbank which reversed policy and took Sweden into the icy cold world of negative interest-rates. As we stand the era of ever lower interest-rates has created quite a few problems so in fact there was a point to being concerned about low interest-rates. Indeed they were persisted with when unemployment was low and inflation rising.

Moving onto today we can start with another example of central bankers being pack animals.

To bring down inflation and safeguard the inflation target, the Executive Board has decided to raise the policy rate by 0.75 percentage points to 2.5 per cent. ( Riksbank)

Everyone is now matching the Fed and it does seem to have impacted the US Dollar trend as we thought it would. Also there is something called the Rikshog which has finally happened. Thank you to Martin Enlund for the chart.

As you can see the Riksbank spent many years telling people it would raise interest-rates and didn’t. Whereas once it stopped forecasting that it did. I would say you couldn’t make it up but of course they did! Even worse they had the cheek to call it Forward Guidance when it was anything but.

Inflation

This is the cause of the change in tack as it makes its impact around much of the world.

In Sweden, too, inflation is still too high. In October, CPIF inflation was 9.3 per cent. This was somewhat below the Riksbank’s forecast in September, but is entirely due to energy prices being lower than expected.

This does leave them with rather a problem though because if they thought inflation would be higher than 9.3% what were they doing having an interest-rate of only 1.75%? We do get a sort of confession here although they do not put it like that.

Demand recovered rapidly after the pandemic and activity in the Swedish economy has been unexpectedly high so far
this year, with a strong development on the labour market.

In itself that is a good thing but rather ironically their Forward Guidance failed to think ahead to the likely consequences.

The good development in demand has meant that companies have to a large degree had the opportunity to pass on their cost increases to consumer prices
and have in this way contributed to the broad upturn in prices.

That is pretty basic central banking ( taking away the punch bowl as the party gets going) but they thought they knew better.

They Promise More More More

After the Rikshog above you may want rather more than a pinch of salt with this.

The policy rate is expected to be raised further at the beginning of next year to then be just under 3 per cent.

Actually that is not very much and they are quite specific in some of the detail at 2.84%. In itself that is quite ridiculous precision from a body that has just got it completely wrong. They are back to their usual fallback which is to prefer their economic models to reality.

Inflation in Sweden has risen rapidly to a very high level, which we have not seen since the beginning of the 1990s, when the inflation target was introduced, but the long-term inflation expectations have remained stable.

As they have just showed they cannot look forwards even 6 months this is derisory stuff. Oh and if it does not work well it is everybody else’s fault.

The Riksbank is determined to bring down inflation. The speed at which this can be attained and the degree of monetary policy tightening this requires will depend,
among other things, on what inflation expectations price-setters and wage negotiators base their actions on.

House Prices

We always end up here if we look at central banking analysis and the truth is central banks act as if they start here. We can begin a little euphemistically.

Interest-rate sensitivity is higher than before in the Swedish economy, and there is considerable uncertainty regarding the way that heavily indebted households in Sweden will be affected by rising interest rates.

How has that happened? Well swedishbankers.se helps out.

According to Statistics Sweden’s Financial Market Statistics, total lending secured by single-family
homes, tenant-owned apartments and apartment buildings amounted to SEK 5,193 billion at the end of
June 2022. Three years ago, in June 2019, the corresponding figure was SEK 4,314 billion. Lending has
thus increased by SEK 879 billion, or 20 percent, in three years.

Some might think that the low interest-rates Paul Krugman was so keen on were the biggest factor here.

.In the longer term, too, interest rates have fallen. Until the beginning of 2022 the initial fixed rates have dropped
to the lowest levels since at least 1985. Variable interest rates are also at historically low levels.

Now the situation has changed partly in response to the previous interest-rate rises and the Riksbank puts it like this.

.Housing prices have already fallen substantially from the peak at the beginning of the year. The Riksbank’s forecast is that they will continue to fall in the coming years, to around the level prevailing prior to the pandemic.

For newer readers it is all about the “Wealth Effects” or rather an expected reverse for them.

Developments on the Swedish housing market comprise a risk for domestic demand in the coming years.

The Krona

The Riksbank seems to be lost in a land of confusion here.

Over the year, the krona has weakened, which is probably largely connected to the difficulty in predicting the outlook for inflation and economic activity.

Okay so the era of King Dollar has added to inflation which is logical, But then it seems to have disappeared.

At the same time, it is worth pointing out that the krona´s exchange rate has not had a crucial bearing on
the sharply rising inflation this year and it is not expected to have any decisive effect on the clear fall in inflation next year.

Then it returns as quickly as it went.

If the krona appreciation in the current forecast
does not occur, however, it may be somewhat more difficult to bring inflation down to the target.

Comment

So we see a rise to 2.5% and guidance towards but not quite 3%. This will impact because if we look at the specifics Sweden has been heading in the opposite direction to the UK.

During the period from January to June 2022, 55 percent of new home loans taken out by households
had variable interest rates. During the spring of 2022, the share of households’ new mortgages with variable interest rate has started to increase. ( swedishbankers.se)

Perhaps they listened to the Forward Guidance of their central bank. If so it has just shafted them if I may be permitted a technical term.

As the initial fixed mortgage interest rates have increased more than the variable mortgage interest rates,
demand for the variable interest rates has increased.

If the alternative scenario of inflation being sticky and interest-rates going to 4.65% should happen then they will be royally shafted. Which means that this will be an understatement.

GDP is expected to shrink in 2023, which is visible in the labour market, where the employment rate is falling and
unemployment is rising.

Oh and at these interest-rates its own balance sheet is becoming rather expensive.

The Riksbank’s asset holdings as motivated for monetary policy purposes were around SEK 860 billion in mid-November. Purchases will cease at the end of the
year and securities holdings will thereafter gradually decrease through maturities

The ECB faces higher interest-rates and losses on its bond holdings

This morning in Frankfurt ECB President Christine Lagarde has been setting out ger stall on monetary policy. In essence she is presenting herself as a doughty and valiant inflation fighter.

For the ECB, displaying our commitment to our mandate is vital to ensure that inflation expectations remain anchored while inflation is high. We are committed to bringing inflation back down to our medium-term target, and we will take the necessary measures to do so.

How is that going? Well the Deposit Rate of 1.5% rather pales when we note this.

The euro area annual inflation rate was 10.6% in October 2022, up from 9.9% in September. A year earlier, the
rate was 4.1%. ( Eurostat)

Even she will struggle to find an economic theory that suggests an interest-rate some 9.1% below the inflation rate will be a success. Also there is something else in the detail which raises an issue we no longer get told about which is convergence with the Euro area. Anybody can see how that is going too.

The lowest annual rates were registered in France (7.1%), Spain (7.3%) and Malta (7.4%). The highest annual
rates were recorded in Estonia (22.5%), Lithuania (22.1%) .

What will she do?

Although she does not put it like that this is quite a confession of failure.

Inflation in the euro area is far too high, having reached double digits in October for the first time since the start of the monetary union.

Then she sets out her case.

That is why we have been raising rates at our fastest pace ever – by 200 basis points in our last three policy meetings. These rate increases help us to withdraw support for demand more quickly. And they send a clear signal to the public of our determination to bring down inflation, which will help anchor expectations.

She is determined to give the impression of action and “200 basis points” sounds so much better than 2% which some may start comparing with an inflation rate above 10% as inflation is never expressed as 1060 basis points.

Then we get her main message.

We expect to raise rates further – and withdrawing accommodation may not be enough. Ultimately, we will raise rates to levels that bring inflation back down to our medium-term target in a timely manner.

That is being taken as aggressive although a little care is needed because the estimate of the neutral rate for the Euro area is similar to the inflation target at 2%. So we will presumably be there next month. Technically as some say below 2% we will be there next month on current expectations.

Trouble Trouble Trouble

We find ourselves in Taylor Swift territory because President Lagarde is keen to emphasis this.

As I explained recently, how far we need to go, and how fast, will be determined by the inflation outlook.

And again.

In this setting, displaying commitment to our mandate is vital to ensure that inflation expectations remain anchored and second-round effects do not take hold.

Perhaps she should talk to this woman.

Despite eurozone inflation hitting a record high of 4.9 per cent in November, well above the ECB’s target of 2 per cent, Christine Lagarde said it was likely to have peaked and would decline next year.
“I see an inflation profile that looks like a hump . . . and a hump eventually declines,” she said at a Reuters virtual event. Lagarde also repeated her assertion that the ECB was “very unlikely” to raise interest rates next year. ( Financial Times 11 months ago)

It is hard to believe now that 4.9% was a record as we have more than double that. But the fundamental issue is that someone who has been about as wrong as you can be on inflation wants us to look forwards based on her expectations. What could go wrong?

This is a real issue of our times because policy is frequently based on forecasts from bodies which are awful forecasters. In my home country the media were plugging numbers from the Office for Budget Responsibility ignoring the fact that it is always wrong. Here we see that the ECB President is in effect going to be setting the wrong interest-rates because her expectations are much more likely to be misleading than useful.

Why do they do it. Well they can manipulate expectations much more than the actual numbers. Whilst their impact on the actual numbers is for example omitting owner occupied housing that is much less than their crimes with assumptions and forecasting.

TLTRO Day

This is something else which is awkward. During the pandemic central banks basically threw cheap money at the banks. In the Euro area the cries of “The Precious! The Precious!” were so loud they were paid via negative interest-rates to take the money. That is now awkward because they could round-trip it and get 1.5% now and presumably 2% next month. We do not often see a real world example of the economics concept of “free money” but this is one.

Even the ECB realises that hard pressed workers and consumers will be unhappy about this so they changed the rules.

That is why we recently decided to amend the terms and conditions of our targeted longer-term refinancing operations (TLTRO-III).

Well today is the day or rather the first tranche of repayments.

It brings with it 2 problems. The first is back to expectations and forecasts as the ECB hot this wrong by making it too easy for the banks. Also I recall Mario Draghi assuring us it was a “rules-based organisation” as it has just broken them.

Quantitative Tightening

This is another area that could go off like a hand grenade. We start with a familiar issue which is that this time last year the ECB was still singing along with Andrea True Connection.

More! More! More!

This particularly matters because it was expanding the money supply and easing fiscal policy into an inflation surge. So exactly the opposite of what it is supposed to do. We are back to expectations and forecasts again and the problems when you get them so wrong. Now we are told.

In December we will lay out the key principles for reducing the bond holdings in our asset purchase programme portfolio.

This is being forced on them because some of the holdings are getting expensive now. If you buy bonds and negative yields then paying 1.5% on them means you have a running cost of 2% per annum which will rise. Next on a mark to market basis there will be large losses in some cases. For example looking back on my chart the Italian bond future has lost 21% over the past year. The German one has lost 18%.

Central bankers around the world are looking at QT as they panic about the losses they have made and the running cost which in an irony is being made higher by their own actions.

Comment

The simplest issue here is the Bananarama critique of monetary policy.

It ain’t what you do, it’s the way that you do itIt ain’t what you do, it’s the way that you do itIt ain’t what you do, it’s the way that you do itAnd that’s what gets results

In essence they responded last and have done the least of the central banks which are raising interest-rates. This is a particular issue because monetary policy needs to act in advance ( at least a year) as it takes time to operate. Due to the move towards fixed-rate mortgages the lags have got longer. Actually the latter means that the ordinary person on the Frankfurt or Paris omnibus is better at forecasting than the central bankers.

Next up is the elephant in the room.

Additionally, although recent data on GDP growth have surprised on the upside, the risk of recession has increased.

Actually I think the Euro area is in recession but let us use our translator on what she has said. There is no cheerleading about the GDP growth so she doesn’t believe it either. Also mentions of “recession” by a central banker are not to forecast it they are there because they have been warned it has arrived and they need to cover themselves. Later she will claim to have been on the case and most will take that at face value.

Next up is the suggestion that the recession might last for quite a while.

At the same time, historical experience suggests that a recession is unlikely to bring down inflation significantly, at least in the short run.

This is reinforced by the fact that she is giving herself scope to blame others.

In the current environment of high inflation, fiscal policy needs to be temporary, targeted and tailored. It should be temporary, so that it does not push up demand too much over the medium term; targeted, so that the size of the fiscal impulse is limited and benefits those who need it most; and tailored, so that it does not weaken incentives to cut energy demand.

Considering how wrong she has been you might reasonably think she has quite a cheek telling others what to do…

 

What are the economic consequences of Bitcoin and the whole crypto scene being in disarray?

We can start this morning with some good news for holders of Bitcoin which is that it has bounced a thousand Dollars overnight to US $16,750. Of course in terms of the bigger picture that is also bad news as that level is way below where it was only recently. In terms of economic analysis we have seen a shrinkage in a type of money supply and combining that with the losses seen both realised and unrealised we have yet another deflationary influence on the world economy. This adds to what the central banks are doing. From today’s ECB monthly bulletin.

Bank lending rates for firms and households have increased further, as banks tighten their loan supply. Since February 2022, increases in bank funding costs have pushed up lending rates in all euro area countries, while credit standards have become tighter.

 

What has caused this?

The first issue is simply the rise in interest-rates I have just referred too. Out of those the main player is the reserve currency or US Dollar as that is what Bitcoin is priced in. In a crypto dream Bitcoin would have its own value but it has never really got anywhere near that. So it has faced a situation of being compared to a currency which has an interest-rate of 4% and rising. In a sense we are looking at a similar situation to the Japanese Yen we have looked at frequently. although the Yen has declined by 27% in 2022 as opposed to the 65% of Bitcoin. So there is more.

Binance and FTX

There has been quite a destructive dance going on between these two.

The Cold War between FTX’s Sam Bankman-Fried (SBF) and Binance’s Changpeng Zhao (CZ) went nuclear this week. Crypto was the biggest loser in the ensuing radioactive fallout. ( FT Alphaville)

Maybe the Inagine Dragons were right.

I’m breaking in, shaping up, then checking out on the prison busThis is it, the apocalypseWhoa

Somehow we end up with this.

Namely, it was fragile enough that the founder of Binance, a major competitor, could spark a market panic with a series of tweets. Those tweets reportedly led SBF to shop around for a new round of investments, and eventually forced him to go, cap in hand, to CZ.

Yes that is the same FTX which was run by this man. From Fortune magazine in August.

Exclusive: 30-year-old billionaire Sam Bankman-Fried has been called the next Warren Buffett……..In 2019 he founded crypto exchange FTX, hailed by some as the best derivatives platform ever built.

Fortune have taken a beating for this but we are fair on here so I will point out they also stated this.

His counterintuitive investment strategy will either build him an empire—or end in disaster.

Actually he seems to have managed both and it is only early November. Life is sure fast in the crypto scene. Indeed it turned out to be fast in another way too.

The billionaire founder of crypto exchange FTX, Sam Bankman-Fried, has plans to give away the vast majority of his wealth thanks to the philosophy of “effective altruism,” which he learned in college.

Despite running a multibillion-dollar global crypto exchange, the 30-year-old drives a Toyota Corolla, lives like a college student, and has a goal of making as much money as possible so that he will have more to give away, according to Bloomberg.

That was from April although it was on the 4th not the 1st. How did he give it away? Not by conventional means. As FT Alphaville explains Binance/CZ ended purchase negotiations with a volley of torpedoes.

But Binance only signed a “non-binding LOI”, or letter of intent. And the now-indisputably preeminent crypto exchange very publicly walked away from the deal with a killer parting shot:

“As a result of corporate due diligence, as well as the latest news reports regarding mishandled customer funds and alleged US agency investigations, we have decided that we will not pursue the potential acquisition of FTX.com.”

Regulation or not?

The story takes another twist because we have become used to the lack of regulation and hence official meddling has been one of the perceived strengths of the crypto world. Right now the idea of them being a safe haven has had better times to say the least and there is a particular irony.

FTX’s US platform is separate from its international exchange, as SBF said in his Tuesday tweets. He described FTX US on Twitter as “not currently impacted by this”, without saying whether “this” is the need for cash or the Binance LOI. FTX US also appears to be open for dollar withdrawals. ( FT Alphaville )

So the only investors who might be okay are doing so because they are in a regulated space. That is of course the opposite of the modus operandi of the crypto world. I would also add a so far to that as regulation does often turn out to have holes in it.

Also there is the issue of whether the actions of Binance are illegal? They certainly look illegal but which court do you prosecute in? No-one seems to have much idea.

Alameda

There is another leg to this story and it is in a way the beginning of the crisis.

Though it’s not obvious exactly how separate Alameda is from FTX. While CEO Caroline Ellison told Bloomberg that there is a “Chinese wall” to stop information sharing between Alameda and FTX, ( FT Alphaville)

Information maybe but money not so much.

Coindesk saw documents showing at least one part of Alameda held a very large amount of FTT on its balance sheet as of June 30, with $2.2bn in FTT held as “collateral”.

Ironically we are now in the world of off balance sheet vehicles and in a sense SPVs that the Euro area has loved so much. Essentially for the same reason that you can spin money around in a dizzying whirl. But of course the Euro area does have treasuries and taxpayers at the limit whereas the token world had this.

The report implied that FTX was able to effectively add leverage by issuing tokens to Alameda, because Alameda could then borrow against those tokens and redeploy the cash back on to FTX’s platform. But when the price of a token — or any collateral really — slides, a firm needs to put up more cash against its loans. ( FT Alphaville)

We are back to the adventures of Stevie V.

Money talks, mmm, mmm, money talksDirty cash I want you, dirty cash I need you, oohMoney talks, money talks

We see another irony as the crypto world built to escape US Dollars requires the very same as a rescue act. Then there is another problem as on the way up there is cash everywhere but on the way down it disappears and each Dollar seemed to need to be in at least 2 places at once. If the news that has just been released turns out to be true maybe a few more than 2.

JUST IN: Sam Bankman-Fried previously transferred at least $4 billion in FTX funds to support Alameda, including user deposits, Reuters reports. ( @WatcherGuru )

Comment

If we now bring this back to economics we see that we had an expansionary and inflationary influence from what was a type of international virtual money supply. Only a fraction of it will have been used but back last November when the price went above US $65,000 some will have spent their gains. But now we face a deflationary influence as losses replace profits as we are reminded that much of it was singing along with Imagination.

It’s just an illusion (ooh, ooh, ooh, ooh, ah)Illusion (ooh, ooh, ooh, ooh, ah)Illusion

I hear some of you saying where are Credit Suisse or Deutsche Bank? Well Alpaca can help a little.

In honor of Women’s History Month, we hosted a panel on Twitter Spaces with eight inspiring women in fintech and crypto.

Okay so?

Constance Wang: Hi guys. I’m Constance, I’m the CEO of FTX and the co-CEO of FTX Digital Markets……..  I joined Credit Suisse, but was totally bored in banking industry and moved to crypto two years later and joined SIM to build out FTX since the beginning of 2019.

Well she certainly wont have been bored at FTX as we see you can take the girl out of Credit Suisse but maybe you cannot take Credit Suisse out of the girl. This sounds right out of the Credit Suisse playbook.

The space is chaotic, and people didn’t know what they were talking about. I thought that was a chance for me because I didn’t know and you didn’t know, so yeah, I’m not so sure and a disadvantage. So that’s why I chose crypto

 

UK house price falls look likely to build up a head of steam

This morning has brought further confirmation of something that will be very unpopular at the Bank of England. It’s research students will have been in at the crack of dawn in an attempt to avoid having to present at the morning meeting and have Governor Andrew Bailey frown at them as they say this.

“Average house prices fell in October, the third such decrease in the past four months. The drop of -0.4% is the
sharpest we have seen since February 2021, taking the typical property price to a five-month low of £292,598.” ( Halifax )

No amount of mathematical torturing of the figures will allow them to sugar the unpleasant taste in the Governor’s mouth. Although no doubt they will try to emphasise the fact that year on year growth remains.

While the pace of annual growth also continued to ease, to +8.3% compared to +9.8% in September, average
prices remain near record highs.

Plus perhaps a reminder of how much house prices have risen under his wise and benevolent Governorship.

Though the recent period of rapid house price inflation may now be at an end, it’s important to keep this is
context, with average property prices rising more than £22,000 in the past 12 months, and by almost £60,000
(+25.7%) over the last three years, which is significant.

If we return from the rarified air at the Bank of England a cold blast of reality reminds us that this was quite a blast of inflation that the official targeted measure of inflation ignores. Or if you prefer has spent more than 20 years forgetting to include. If you want more details on this I analysed this last Monday ( 31st of October).

The winds of change seem to have upset the media as well.

UK house prices fall at fastest rate since February 2021 ( Sharecast)

As they have been soaring that would be true of almost any decline.

What has caused this?

According to the Halifax this.

While a post-pandemic slowdown was expected, there’s no doubt the housing market received a significant
shock as a result of the mini-budget which saw a sudden acceleration in mortgage rate increases.

Personally I think it is too early for that to have had much of an impact whereas this seems much more solid.

Understandably we have also seen consumer caution grow, as industry data shows mortgage approvals and
demand for borrowing declining. The rising cost of living coupled with already stretched mortgage affordability is
expected to continue to weigh on activity levels. With tax rises and spending cuts expected in the Autumn
Statement, economic headwinds point to a much slower period for house prices.

They have touched on one of our themes there along the way. Remember when we kept being assured mortgage affordability was fine? That was only true because mortgage rates were so low and of course the Bank of England response to the pandemic pushed them below even such levels. This was always going to affect first-time buyers relatively more.

More notable was the drop in property prices for first-time buyers. Annual growth fell to +7.5% in October from
+10.1% in September. Given the greater challenges for first-time buyers in deposit-raising, plus tighter
requirements for higher loan-to-value mortgages, the relatively faster slowdown in prices is not surprising.

Mortgage Rates

It’s money and credit release at the end of last month showed us that the heat was on before the mini-Budget furore.

The ‘effective’ interest rate – the actual interest rate paid – on newly drawn mortgages increased by 29 basis points to 2.84% in September, the largest monthly increase since December 2021 when Bank Rate began rising. The rate on the outstanding stock of mortgages increased by 7 basis points, to 2.24%.

Since then it has acted in opposite directions on mortgage rates. Whilst these days only around a fifth of mortgages are variable-rate they will have been affected by this last week.

At its meeting ending on 2 November 2022, the MPC voted by a majority of 7-2 to increase Bank Rate by 0.75 percentage points, to 3%.

Also as the latest meeting Minutes point out October saw some wild swings for fixed-rate mortgages.

Lending rates for new mortgages had increased sharply since the MPC’s previous meeting, reflecting the sharp rise in risk-free market rates during the period as well as increases since the August Report. The monthly average quoted rate on a two-year fixed-rate 75% loan-to-value (LTV) mortgage had increased from 3.6% in August, to 4.2% in September. Preliminary data suggested that the rate had increased significantly further to 6.0% in October, its highest rate since 2008.

The Bank of England bought some £19.3 billion of longer-dated UK government bonds to help calm all that down. But we remain in a situation where mortgage rates are now considerably higher.

New figures from Moneyfacts show that the average two-year fix fell 3 basis points, to 6.45%, and the average fix for a three-year fix was not far behind, dropping 2 basis points, to 6.74%.

At the same time, the five-year fix lost 6 basis points, going to 6.28%, and the average rate for a 10-year fix ticked down a single basis point to 5.62%. ( Mortgage Strategy)

This is why we saw a rather bizarre phase in the Bank of England press conference on Thursday when Governor Andrew Bailey got very near to promising listeners that mortgage-rates would soon be lower. Apart from the obvious issue that he had just raised variable mortgage-rates it was curious to say the least to hear a man who has been wrong on so much giving Forward Guidance on future mortgage-rates. Especially as in his formal statement he had told us this.

There are, however, considerable uncertainties around the outlook. If the outlook suggests more persistent inflation pressures, the Committee will respond forcefully, as necessary.

Comment

Up until this month the UK house price situation was rather defying reality a bit like when Wily E Coyote ran over the edge of a cliff. For a while he hangs there until gravity gets a hold on him. Today’s news adds to what we were told earlier this month by the Nationwide.

Prices fell by 0.9% month-on-month, after taking account of seasonal effects, the first such fall since July 2021 and the largest since June 2020.

There has been a slow squeeze via mortgage rates which were 1.74% for new mortgage rates 2 years ago and 1.78% a year ago as opposed to 2.84% in September.  It appears that such rises have begun to turn the market and we now know that larger rises have been seen since.

On that basis I expect house prices to not only fall further but for the rate of fall to accelerate. Whilst it will be presented as something of an apocalypse let me point out that more than a few will gain from it.

Falling house prices and higher returns on savings, could lower barriers to home ownership for the next generation of first-time buyers. A fall of 8 per cent would reduce the average length of time to save for a deposit from 15 years in 2022 to 13 years in 2023. ( Resolution Foundation)

Podcast

The Bank of England has managed to undermine its own actions

I do not have to go far ( a bit over 30 minutes by Boris Bike) for today’s analysis as that is the distance to the Bank of England which put on quite a show yesterday. Let us start with the basics of its announcement.

At its meeting ending on 2 November 2022, the MPC voted by a majority of 7–2 to increase Bank Rate by 0.75 percentage points, to 3%. One member preferred to increase Bank Rate by 0.5 percentage points, to 2.75%, and one member preferred to increase Bank Rate by 0.25 percentage points, to 2.5%.

So it did the sensible thing which was to match what the US Federal Reserve had dome the previous evening. Sadly 2 policy members were not bright enough to realise that but in the scheme of things that was not especially important. Although in it was not good news for Prime Minister Sunak who appointed Swati Dhingra who has managed with her first two votes ( 0.25% and 0.5%) to look completely out of her depth.

Communication let me down

We started as shown above with a Bank of England that was effectively defending the UK Pound £ via matching the interest-rate increase of the Fed but then it tried to be clever, via the bit I have emphasised below.

The majority of the Committee judges that, should the economy evolve broadly in line with the latest Monetary Policy Report projections, further increases in Bank Rate may be required for a sustainable return of inflation to target, albeit to a peak lower than priced into financial markets.

It is not easy to express how stupid a statement that was. After all they had just made the largest interest-rate increase for many years and some decades. They could therefore have left the impression that they were going to defend the UK Pound as a way of helping to reduce inflation.

If you look at their forecast for inflation and recall that an interest-rate move takes around 18/24 months to fully operate you might wonder why they have increased interest-rates at all?

CPI inflation is projected to fall sharply to around 5% by the end of next year, as fading external factors outweigh domestic pressures. Inflation then falls to 1.4% in two years’ time, below the 2% target, and to 0.0% in three years’ time , as energy prices make a negative contribution and as domestic pressures weaken further.

Arguing you have made the largest interest-rate increase for some time because you expect inflation to fall below target makes you look very unconvincing.

Unfortunately what was something of a clown show continued.

In projections conditioned on the alternative assumption of constant interest rates at 3%, CPI inflation is projected to be 2.2% and 0.8% in two years’ and three years’ time respectively, around three quarters of a percentage point higher than in the Committee’s forecast conditioned on market rates

So if they made no further increases in interest-rates then inflation will return pretty much to target. So is that now?

Next up was in a way something even more extraordinary.

The MPC’s latest projections describe a very challenging outlook for the UK economy. It is expected to be in recession for a prolonged period….

Okay for how long?

GDP is expected to decline by around ¾% during 2022 H2, in part reflecting the squeeze on real incomes from higher global energy and tradable goods prices. The fall in activity around the end of this year is expected to be less marked than in the August Report, however, reflecting support from the EPG. GDP is projected to continue to fall throughout 2023 and 2024 H1, as high energy prices and materially tighter financial conditions weigh on spending. Four-quarter GDP growth picks up to around ¾% by the end of the projection.

So they are predicting a recession for 2 years. Thus we are expected to believe that we have had the largest interest-rate rise for 2 years because inflation is forecast to be on target and the economy will go into recession!

As you can imagine this went down badly on the foreign exchange markets as they tried to figure out what the Bank of England was actually saying. Very quickly they marked the Pound £ lower and the trade-weighted or effective exchange-rate fell by 1.36 points to 76.4. There is an old Bank of England rule of thumb for this and modifying it a little as falls were heavier against the US Dollar ( and thus more inflationary) they gave back half of their interest-rate increase.

Problems in the labour market too

The Bank of England was giving us an impression of a labour supply shortage.

The Labour Force Survey (LFS) unemployment rate had fallen to 3.5% in the three months to August, its lowest level since 1974. The vacancy-to-unemployment ratio, a measure of labour market tightness, had reached a new record high, as unemployment had fallen by more than the number of vacancies.

But the situation is more complex than that as the latest census figures show.

On census day, 21 March 2021, the combined population of England and Wales was 59,597,542 – up from 56,075,912 in March 2011.

“Natural” population increase – the number of deaths subtracted from the number of babies born – accounted for 42.5% of the rise.

The other 57.5% was due to positive net migration – the difference between the numbers who immigrated into and emigrated out of England and Wales, amounting to two million people. ( BBC)

It is a blunt measure in some ways as we can only compare with ten years ago. But we do have more people which heads in the opposite direction to a labour supply shortage.

House Prices

We always get round to these in the end. The details above were driven in my opinion by the absolute terror at the Bank of England of the likely consequence of this.

 Lending rates for new mortgages had increased sharply since the MPC’s previous meeting, reflecting the sharp rise in risk-free market rates during the period as well as increases since the August Report. The monthly average quoted rate on a two-year fixed-rate 75% loan-to-value (LTV) mortgage had increased from 3.6% in August, to 4.2% in September. Preliminary data suggested that the rate had increased significantly further to 6.0% in October, its highest rate since 2008.

Having spent the period since 2009 and more specifically 2013 when the introduced the Funding for Lending Scheme pumping house prices up the very idea of house price falls is against everything they have worked to create.

This was repeated in the press conference when Governor Bailey started to give people mortgage advice ( wait for fixed-rate mortgages to fall in price). This was extraordinary and something he should never do as there is an enormous moral hazard here. After all he has a lot to do with setting them! He seemed to realise what he had done later as he then denied he had given mortgage advice.

Comment

Let me finish with two obvious flaws in Bank of England policy. The first is the simplest. In spite of yesterday’s move the interest-rate is 3% whilst inflation is 10.1% on their targeted measure and 12,6% for the RPI. The gap between the numbers tells the story.

Also the large increases in interest-rates should come at the beginning not now. I am sure everyone reading this will understand the principle that you respond to get yourselves in the ballpark and then fine tune a response. Except the started with a fine tuning ( 0.15%) and now are doing 0.75% in a sort of logic reversal.

The US Federal Reserve turns up the interest-rate heat

Yesterday evening brought us what was the economic event we have been waiting for and here is the announcement from the US Federal Reserve.

The Committee seeks to achieve maximum employment and inflation at the rate of 2 percent over the longer run. In support of these goals, the Committee decided to raise the target range for the federal funds rate to 3-3/4 to 4 percent.

So we got the 0.75% increase we were expecting but the Bank of Canada will have been disappointed. For newer readers I established the principle earlier this year that the Bank of Canada merely has to match the Fed with the only issue being that it moves first. Also with the upper band reaching 4% I think we are in the area now where the squeeze is on. What do I mean? There was a lot of debate amongst central bankers as to the concept of a “neutral” interest-rate and before they started to raise them there was talk of it being in the range 2.5% to 3.5%.  Below is Robert Kaplan from the Dallas Fed back in 2018.

My longer-run rate submission is my best estimate of the longer-run neutral rate for the U.S. economy. In the September SEP, the range of submissions by FOMC participants for the longer-run rate was 2.5 to 3.5 percent, and the median estimate was 3.0 percent.

Now let us step back a little as they do not know that as it is yet another theoretical construct. But behind it there is a theme where a squeeze is now being applied to the economy. In some ways it is tougher than before because people had got used to ever lower interest-rates and the Fed had lowered to effectively zero. Indeed some US Treasury Bill rates went negative. We also know that this is like a brick on a piece of elastic where if we look a present events nothing seems to be happening much then whack. One feature of that is US mortgage rates which are fixed-rate and the 30 year is widely quoted. So interest-rate rises take their time as they impact first time buyers and those renewing only.

Promises of More

The press conference was always likely to be of extra significance as we waited for hints of what the direction will know be.After all the Fed had for example placed hints of an easing of policy via its mouthpiece Nick Timiraos of the Wall Street Journal. The official statement fed that to some extent.

In determining the pace of future increases in the target range, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments.

So we started with the suggestion that the pace of interest-rate rises would slow. But that is not where we finished and part of it came from a slightly curious route. In the press conference Chair Powell started on that road but then took a bit of a U-Turn. The transcript is from the Wall Street Journal.

Even so, we still have some ways to go. And incoming data since our last meeting suggests that the ultimate level of interest rates will be higher than previously expected.

There are various issues here including the fact that I recall us being told there was no particularly significant data at the moment. But if we skip that we see that the end game if I may put it like that just got higher interest-rates.

There was another turn here.

But I think the answer is we’ll want to get the policy rate to a level where it is—where the real interest rate is positive. We will want to do that.

Because we had already been told this about inflation.

Over the 12 months ending in September, total PCE prices rose 6.2 percent. Excluding the volatile food and energy categories core PCE prices rose 5.1 percent.

So there is a way to go for interest-rates to get above them and create a positive real interest-rate.

To a question about whether they look at the rest of the world and the impact of the strong dollar?

So we know that we need to use our tools to get inflation under control. The world is not going to be better off if we fail to do that. That’s a task we need to do. Price stability in the United States is a good thing for the global economy over a long period of time.

So as Dawn Penn would say “No,no,no”. The Fed remains as insular as ever.

I mentioned earlier that Chair Powell got tripped up by a question and here it is.

Q: Great. Just a quick follow—it looks like stock and bond markets are reacting positively to your announcement so far. Is that something you wanted to see?

To which he replied.

You know, our message should be—what I’m trying to do is make sure that our message is clear, which is that we think we have a ways to go. We have some ground to cover with interest rates before we get to—before we get to that level of interest rates that we think is sufficiently restrictive.

That really rather stamped on things, especially as it was followed by this.

I’ve also said that we think that the level of rates that we estimated in September, the incoming data suggests that that’s actually going to be higher.

Just in case that was missed he added another bit.

So, OK. So I would also say it’s premature to discuss pausing and it’s not something that we’re thinking about. That’s really not a conversation to be had now. We have a ways to go.

By the end of the answer the rallies mentioned were over.

Comment

So the US Federal Reserve wants us to think it is an intrepid inflation fighter.If we skip the issue that such thoughts involve deleting its actions in 2021 we see that it has had an impact. For example it has exported a little more inflation via a stronger US Dollar which has risen again. Domestically we see that bond yields have risen with the ten-year yield now at 4.15%. That will affect the economy, the US government via new borrowing and refinancing maturities and finally the Fed itself as its large QE bond holdings go increasingly underwater.

But there is more because Chair Powell has directed us in the past to shorter-term yields which is probably why the two-year gas pushed higher to 4.72% as I type this. Added to this is the US mortgage market which is slower moving than elsewhere in its impact on house prices due to the prevalence of relatively long-term deals. So the Fed thinks it needs to keep moving which will punish others until it too gets hit by the brick on an elastic that I mentioned earlier.

By then it will be too late and they will not only have been too late exacerbating inflation they may well have created the next recession too as they tighten into a slowing economy.

 

Australia is pivoting on interest-rates because of fears about house prices

This week is one that will be dominated by rises in interest-rates as domestically we await the Bank of England but also the whole world waits for the US Federal Reserve tomorrow. This morning we awoke to news from a land down under where according to Midnight Oil beds are burning.

At its meeting today, the Board decided to increase the cash rate target by 25 basis points to 2.85 per cent. It also increased the interest rate on Exchange Settlement balances by 25 basis points to 2.75 per cent.

That was from Phillip Lowe who is the Governor of the Reserve Bank of Australia. There are 3 immediate issues here. Firstly that the increase was only 0.25% when we have got used to a “new normal” of 0.75%. Secondly that there is a complete mismatch between the interest-rate and inflation as he kindly confirms below.

As is the case in most countries, inflation in Australia is too high. Over the year to September, the CPI inflation rate was 7.3 per cent, the highest it has been in more than three decades.

So they have slowed the rate of increase in spite of the fact that the rate of inflation is over 2 and half times higher than the interest-rate. As we also need to look forwards as interest-rates operate with a lag we in fact see that things are even worse.

A further increase in inflation is expected over the months ahead, with inflation now forecast to peak at around 8 per cent later this year.

There is an attempt to explain things with this.

Inflation is then expected to decline next year due to the ongoing resolution of global supply-side problems, recent declines in some commodity prices and slower growth in demand. Medium-term inflation expectations remain well anchored, and it is important that this remains the case. The Bank’s central forecast is for CPI inflation to be around 4¾ per cent over 2023 and a little above 3 per cent over 2024.

So they are suggesting that inflation will be lower next year and thus they do not need to increase interest-rates by much more.  Let us look back to last year to see how good they are at looking ahead as here is the statement from the 2nd of November 2021.

The central forecast is for underlying inflation of around 2¼ per cent over 2021 and 2022 and 2½ per cent over 2023.

As you can see they were completely wrong about this year by a factor approaching four and as we stand now think inflation next year would be double what they thought then. In fact they were so sure of this they kept interest-rates at record lows.

The Board will not increase the cash rate until actual inflation is sustainably within the 2 to 3 per cent target range….. The Board is prepared to be patient, with the central forecast being for underlying inflation to be no higher than 2½ per cent at the end of 2023 and for only a gradual increase in wages growth.

It was a clear policy error and one of the biggest of our times but for our purposes today we can see that their claimed rationale for reducing the pace of interest-rate rises is based on wishful thinking. More specifically based on economic models which could not have been much more wrong.

The third issue is how do you end up with an interest-rate of 2.85%?

Contradiction Time

The economy is awkward for them as we note an indicator that we have been guided to in the past.

The labour market remains very tight, with many firms having difficulty hiring workers. The unemployment rate was steady at 3.5 per cent in September, around the lowest rate in almost 50 years. Job vacancies and job ads are both at very high levels….

So we are around the lowest unemployment rate for 50 years and the growth pattern is much better than elsewhere.

The Bank’s central forecast for GDP growth has been revised down a little, with growth of around 3 per cent expected this year and 1½ per cent in 2023 and 2024.

Commodity prices have fallen in some areas but Australia must be benefiting from the LNG and coal boom.

Over the past year, the index has increased by 22.4 per cent in SDR terms, led by higher LNG, coking coal and thermal coal prices. The index has increased by 28.9 per cent in Australian dollar terms. ( RBA)

After he enjoyed his dinner in Hobart Governor Lowe confirmed this.

Our economy has bounced back better than most from the COVID-19 disruptions and we are benefiting from a surge in the prices of our key exports.

There is an obvious problem here as apparently Australia needs to increase interest-rates by less because it is doing better!

House Prices

If we now switch to what usually determines RBA policy we see that they were on their minds. From the official statement.

Another is how household spending in Australia responds to the tighter financial conditions. The Board recognises that monetary policy operates with a lag and that the full effect of the increase in interest rates is yet to be felt in mortgage payments. Higher interest rates and higher inflation are putting pressure on the budgets of many households. Consumer confidence has also fallen and housing prices have been declining following the earlier large increases.

So they are worried about the rise in mortgage interest-rates and hence mortgage costs and the implication for house prices. Perhaps suitably refreshed Governor Lowe went further at the dinner.

I understand that the higher interest rates that are needed to bring inflation under control are unwelcome by many people, especially those who have borrowed large amounts over recent times.

Who was that person who encouraged Australians to borrow so much? Here is Governor Lowe from a year ago.

Financial conditions in Australia remain highly accommodative, with most lending rates at record lows.

Comment

The basic point is that one of the stronger world economies is in the midst of what has become called the “pivot” on interest-rates. Indeed if we note these bits from the dinner speech there may be more to come.

This morning, we also discussed the consequences of not raising interest rates,

And….

Similarly, if the situation requires us to hold steady for a while, we will do that.

Our intrepid inflation fighters seem to be getting cold feet. If you follow my work you will know that my theme is that so much of central banking policy is driven by house prices. Looking at the figures below confirms that as we see how enormous rises were ignored but what are still small falls are getting an instant policy change.

House prices across the nation have continued to fall despite the spring selling season getting underway.

Prices have fallen by 0.06 per cent nationally, with a 0.11 per cent drop in Australia‘s capital cities according to PropTrack’s Home Price Index, the smallest fall since the March peak.

Hobart and Canberra led the declines with 0.46 per cent and 0.37 per cent dips respectively, followed by Sydney at 0.21 per cent.

But the dip isn’t a reason to panic according to property experts, with prices still up 30.2 per cent when compared with pre-pandemic levels. ( news.com.au )

 

 

 

 

The Bank of England misleads on inflation as the money supply surges

This week it is the Bank of England which is in focus as there are quite a few matters on its plate. On Wednesday night it will vote on how much to increase UK interest-rates via its own Bank Rate. At the peak of the crisis around a month ago some market expectations were for increases of 2% but as time has passed they have faded quite a bit and things are more in line with the move of 0.75% by the ECB last week. Of course the US Federal Reserve may throw a spanner in the works and I presume they will have the sense to wait for its vote on Wednesday evening before voting themselves.

Also they have decided to ignore my advice and press ahead with some active bond sales or Quantitative Tightening. Although if you look at the plan you can see that they have modified in somewhat presumably due to nerves about its impact.

  1. These sales will begin on Tuesday 1 November, ending on Thursday 8 December 2022.
  2. These gilt sale operations will be distributed evenly across the short and medium maturity sectors only.
  3. The Bank will conduct eight sale operations across each of these two maturity sectors (four in each), with a planned size of £750mn per auction. The dates for the individual auctions are specified in the table below.

So the sales start tomorrow but with a short-dated operation ( 3-7 years maturity) and next Monday will see a medium-dated operation.  The total size will be £6 billion. So the size has been reduced from the initial plans as well. The estimate of £80 billion per annum suggested £20 billion per quarter rather than the £6 billion we are getting. Also there are no longer dated Gilts being sold which reminds me of the £19.3 billion of long-dated bonds that the Bank of England bought in late September and early October.. What will happen to them?

The Bank’s approach to the unwind of the stock of gilts purchased in the course of its recent temporary and targeted financial stability operations will be confirmed separately in due course.

Oh and in case you did not believe the plans had changed here is the official denial.

As set out previously, the MPC’s decision at its September meeting to reduce the stock of purchased gilts is unaffected and unchanged.

Assuming the QT happens then rather than the implied £20 billion reduction in its bond holdings there will be £13.3 billion more. Also there will have been an “Operation Twist” style move as it sells shorter-dated bonds and previously bought longer-dated ones. So it has increased its own interest-rate exposure just as it is raising interest-rates. Genius!

Oh and I did say they are nervous.

The Bank will closely monitor the impact of this gilt sales programme on market conditions, and reserves the right to amend its schedule, including the gilts to be sold and the size of its auctions, or any other aspects of its approach at its sole discretion.

Problems with inflation

Via its Bank Underground website we have been treated to a new analysis of inflation. I had an issue with the title and the first two words so I did not get very far. Anyway they do not have much of an open door policy to comments because I made mine on Thursday lunchtime and they have not appeared. So here is the title and the first 2 words followed by my reply.

How broad-based is the increase in UK inflation?

CPI inflation

Thank you for the post which is interesting.

 

However by putting “broad based” in the title and then “inflation”  there is the implication that your analysis is of that form. However by using the flawed CPI inflation measure that implication ends with the first two words of the post.

 

For those unaware the CPI inflation measure ignores owner-occupied housing which is a large part of people’s overall spending and hence experience of inflation.  Estimate’s of the size vary but for example the US Bureau of Labor Statistics puts it at 23.8%. So an analysis ignoring this is already looking away from what is a large part of people’s experience of inflation.

 

One can take that further because if we look at the statistics we have then we see this.

 

“UK average house prices increased by 13.6% over the year to August 2022…….On a seasonally adjusted basis, average house prices in the UK increased by 1.1% between July and August 2022, ” ( Office for National Statistics or ONS)

 

Many owner-occupiers will also be affected by mortgage costs. On a basic level they have been in the media pretty much everywhere which gives us a clue. But the ONS also calculates a number for mortgage interest payments and they were up by 19.7% over the past year.

 

As you can see the inflation picture changes once these are included rather than ignored. But there is more and we do not have to leave the topic of housing.This is because the CPI measure does include rents but sadly due to the way it has a 14 month stock of rents it is in fact giving us rents from 2021 rather than 2022, I am sure that the fast rise in London rents is a topic discussed amongst Bank of England staff but the official statistics instead live in this rather different reality.

 

“Private rental prices in London increased by 2.8% in the 12 months to September 2022, up from an increase of 2.5% in August 2022……… Despite this, London’s rental price growth in September 2022 remains the lowest of all English regions.”

 

How would your analysis change if we add in these elements to more accurately reflect the inflation picture?

 

Thank you

 

Shaun Richards

Money Supply Surges

We saw a consequence of the pension fund problem at the end of September as they undertook the electronic equivalent of a dash for cash.

The flow of sterling money (known as M4ex) increased sharply to £ 74.4 billion in September, from £4.4 billion in August. This was mostly driven by flows of non-intermediate other financial corporations’ (NIOFCs’) holdings of money increasing to £67.8 billion in September from -£3.4 billion in August.

In fact they borrowed some money too as some £19.3 billion of the borrowing below was them too.

The flow of sterling net lending to private sector companies and households, or M4Lex, also rose, to £25.9 billion in September from £4.2 billion in August.

So we had money supply growth of 2.7% on the month raising the annual rate to 7%!

Mortgages

So far mortgage lending has ignored the rises in mortgage rates.

Net borrowing of mortgage debt by individuals remained at £6.1 billion in September (Chart 1). This is above the past 6-month average of £5.7 billion.

But there was a warning signal of changes to come.

Approvals for house purchases, an indicator of future borrowing, decreased significantly to 66,800 in September, from 74,400 in August, but were above the past 6-month average of 67,200.

But the interest-rate beat went on and we know that a bit of a turbo-charger was applied in October.

The ‘effective’ interest rate – the actual interest rate paid – on newly drawn mortgages increased by 29 basis points to 2.84% in September, the largest monthly increase since December 2021 when Bank Rate began rising.

Consumer Credit

This headed in the other direction in September.

Individuals borrowed an additional £0.7 billion in consumer credit in September, on net, following £1.2 billion of borrowing in August. This was the lowest level since December 2021 (£0.3 billion).

It was new credit card borrowing which faded to £100 million while this picked up.

£0.7 billion through other forms of consumer credit (such as car dealership finance and personal loans).

I am not sure how relevant the mention of car dealership finance is. It has become more frequent but we get so little detail.

Maybe people had time to note the wide difference in interest-rates charged,

The effective rate on new personal loans to individuals decreased by 13 basis points to 6.75% in September, but remained higher than the December 2021 rate of 6.27%. Conversely, the effective rate on interest bearing credit cards increased to 18.96% in September, and sits above the December 2021 rate of 17.86%.

Comment

So we arrive with a lot of contrary influences. We have QT but it is as Star Trek would put it “not as you know it” as it is much smaller in size this time around and concentrated at the shorter maturities. I suppose it would be typical of central bank language for QT to coincide with a larger balance sheet then before! Or as Diana Ross put it.

Upside downBoy, you turn meInside outAnd round and round

Next up we have interest-rates where they should match the ECB and presumably the Federal Reserve with 0.75%. But we know that Governor Bailey considers 0.5% to be something of a “bazooka”. That is of course evidence free but central bankers are not strong on evidence.

The money supply numbers will be especially interesting next month to see how much of the late September surge washes out of them.

Podcast

 

 

 

 

 

Inflation is soaring in the Euro area especially in Italy

This morning the centre of economic news is the Euro area and we can also look at it in relation to the news from the ECB yesterday. Let is start with economic output in its second largest economy which is La Belle France.

In Q3 2022, gross domestic product (GDP) slowed after the rebound recorded in the previous quarter (+0.2% in volume*, after +0.5%). ( Insee)

Overall that is a positive result as whilst it shows a slowing I think that at the moment any growth is welcome in the present circumstances. We do see the impact of higher energy costs in the trade section and the emphasis is mine.

Conversely, foreign trade contributed negatively to GDP growth (-0.5 points), after a nil contribution in the previous quarter: imports were more sustained than in the second quarter (+2.2% after +1 .2%), particularly for goods (+1.9% after +0.8%) while exports continued to slow (+0.7% after +1.3%) under the effect of the drop in exports of services (-0.4% after +3.3%).

We get a little more detail later which also suggests some good news for the UK as we have been exporting electricity to France, But as we stand we do not have growth which relies on some heroic numbers for investment.

Total GFCF accelerated markedly this quarter (+1.3% after +0.4%). This development is mainly driven by the strength of GFCF in manufactured products (+3.5% after +0.4%), particularly in transport equipment (+12.4% after +0.3%). In addition, GFCF in services accelerated slightly this quarter (+0.7% after +0.4%) due in particular to the dynamism of GFCF in information-communication (+3.0% after +2.5%

So there you have it, apparently there is a surge in investment in the transport sector. If you add in some inventories then we have growth.

Changes in inventories made a positive contribution to GDP growth this quarter: +0.2 points, after +0.3 points in the previous quarter.

I can at least believe that inventories are rising at a time like this so let us accept the French figure for now as there is a much bigger issue today and here it is.

WIESBADEN – The gross domestic product (GDP) increased by 0.3% in the third quarter of 2022 compared to the second quarter of 2022 – adjusted for price, seasonal and calendar effects.

Hang on GDP in Germany grew? That does not seem right and it does not get much better when we see the explanation. We get less detail than we do for France but we are told this.

Economic output in the third quarter of 2022 was mainly driven by private consumer spending.

I do not often call out official figures but that seems wrong to me. At a time of high inflation I rather suspect they have their inflation measure (deflator) wrong and have recorded inflation as growth. The official explanation is that car registrations rose by 13% on the quarter but I would have expected contractions elsewhere. We may see a version of 2018 where at a much later date Germany revised its figures much lower.

Inflation! Inflation Inflation!

We do not get the national German figure until later but here is its largest province.

Düsseldorf (IT.NRW). The consumer price index for North Rhine-Westphalia rose by 11.0 percent from October 2021 to October 2022 (base year 2015 = 100); this is the highest inflation rate in North Rhine-Westphalia since the early 1950s. As reported by Information and Technology North Rhine-Westphalia as the State Statistical Office, the price index rose by 1.2 percent compared to the previous month (September 2022).

There are some interesting nuances in the detail as I note a search for other forms of energy and heating.

firewood, wood pellets and the like became more expensive here. by 114.8 percent

If we switch to the monthly figures it was a rough month for tomato fans.

tomatoes (+40.8 percent)

But returning to my critique of the GDP numbers and I know these numbers are outside the quarter in question. But in an overall inflationary surge which is particularly effecting Germany I have my doubts about recording GDP growth.

Returning to the inflation issue, the rise was in spite of official efforts to reduce it.#

The care reform from the beginning of 2022 also had a price-dampening effect on inpatient care for those with statutory health insurance (−8.4 percent).The State Statistical Office points out that the reduction in sales tax from 19 to seven percent for gas and district heating was taken into account when recording prices.

Oh Italy!

From the Italian statistical office.

According to preliminary estimates, the harmonized index of consumer prices (HICP) increases by 4.0% on a monthly basis and by 12.8% on an annual basis (from + 9.4% in the previous month).

Yes that is inflation of 4% in a single month which is double the annual ECB inflation target. We do not get a breakdown for this but we get a guide from the national series which tells us that the sector including energy rose by 34.9% in October. transport by 9.6% and food by 8.9%.

It has as we see so often caught expectations out as we mull how they managed to miss ( if my limited Italian is doing me a service) a 66.2% rise in regulated energy costs?

La Stampa adds this to the analysis.

The numbers mean an upcoming winter that looks difficult for families. The National Consumers Union defines today’s numbers as «a Caporetto» and adds «Inflation was already bleeding the Italians, but now the situation has become truly dramatic! For too long, families had been drawing on their savings to be able to pay for their shopping, electricity and gas bills, and by now the piggy banks are empty ”.

France

A much lower number but another rise.

Year on year, the harmonized consumer price index should increase by 7.1%, after +6.2% in September. Over one month, it should rebound by 1.3%, after -0.5% the previous month.

The relatively lower number gives me more confidence in today’s reported GDP growth.

Comment

It is not often I express formal doubts about official statistics but today’s GDP growth from Germany seems a little too good to be true. Let’s be polite as say there may be a ghost in the machine. Once we move on from that we see that the issue today is one of inflation in Germany, France and especially Italy.  This allows us to look back on the ECB yesterday who let it be thought that it was winding back its expected response to inflation.

For example it was leaked via “sauces” that 3 policymakers had voted for 0.5% this time leading to more expectations of that being the next rise. It was summarised here.

Even though ECB guided to further rate hikes, market interpretation of the meeting was dovish as terminal rate moved ~ 25bps lower The reference to “next several meetings” was dropped , while “substantial progress has been made to withdrawing monetary accommodation” ( @CNBCjou)

They will have been guided towards today’s numbers so things now look very confused because with Germany still growing and inflation surging again why were they hinting at lower interest-rate rises? Perhaps they do not believe the growth story either.

Switching to wages we learned recently from ECB Chief Economist Lane that wages matching inflation is not a goof idea.

But trying to insulate workers entirely from inflation through higher wages would drive up corporate costs significantly and lead to second-round effects. ( derstandard)

But apparently it is for some.

Inflation in Belgium and Brussels is automatically included in the salary. And clearly.

The wage rise that EU Commission President Ursula von der Leyen grants herself and her civil servants is almost 7 percent. ( weltwoche )