Fed signals rate cut
Each year the world’s leading central bankers gather at Jackson Hole in Wyoming to assess the state of the global economy. For all the caveats that always accompany central bankers’ speeches, the mood at this year’s gathering, two weeks ago, was positive. With inflation falling and recession fears diminishing, a ‘soft landing’ for the global economy looks within reach.
- In his speech at Jackson Hole, Jay Powell, the chairman of the US Federal Reserve, signalled that the Fed is primed to cut interest rates. Markets assume that the Fed will reduce US rates at its next meeting on 18 September, the first US rate cut in four and a half years. The US is playing catch up with a number of western central banks, including the European Central Bank and the Bank of England, that have reduced rates in recent months.
- Inflation is in retreat with the Fed’s preferred measure for the US at 2.5% and CPI inflation at 2.2% in the euro area and the UK. What has tended to worry central banks more is the persistence of wage pressures and underlying inflation which suggest that economies are running too hot. This is changing. Rates of core inflation stripping out fuel and food have moderated this year and wage growth is weakening in the US and Europe. With inflation close to 2.0% and unemployment edging up wage pressures are likely to continue to ease over the next year.
- An ebbing of inflation pressures sets the stage for significant rate cuts. Markets see the Fed cutting US interest rates by around 200bp in the next 12 months to 3.25%. With the UK economy showing unexpected strength in the first half of the year markets expect lesser rate cuts in the UK, of around 120bp, taking the base rate to about 3.75%, over the next 12 months. The expectation that UK rates will stay higher for longer than US rates has led to a strengthening of the pound, with the dollar exchange rate hitting a two-and-a-half-year high of 1.32 last week.
- Equity markets have made strong gains since early August’s sell-off bolstered by stronger US economic data and the prospect of rate cuts to come. US equities have more than made up their earlier losses and are up by 9% since 5 August. Gold has also benefitted from the prospect of rate cuts (lower interest rates reduce the opportunity cost of holding gold). Last week the gold price reached a record $2,523 per troy ounce. Boosted by demand from central banks and Chinese investors nervous about the country’s property crisis and slow growth, the gold price has risen by more than 20% this year.
- Central banks are signalling that the interest rate cycle has turned. The timing and magnitude of rate moves always depend on the daily flow of data from the economy. If, as seems likely, inflation remains contained interest rates are likely to fall sharply over the next year.
OUR REVIEW OF LAST WEEK’S NEWS
The UK FTSE 100 equity index ended the week up 0.6% at 8,377.
Economics
- The US economy grew more than previously estimated in the second quarter, up 0.7% compared with the first quarter
- US consumer confidence rose to its highest level since February in August
- Euro area inflation slowed to a three-year low of 2.2% in the year to August, down 2.6% the previous month. Markets expect the ECB to cut by another 0.25 percentage points at its meeting next week
- Euro area unemployment saw a modest fall from 6.5% in June to 6.4% in July
- Consumer confidence in Germany saw its fastest decline since the beginning of the year in September
- The UK government is considering giving workers the right to compress their hours into four days as part of a broad package of employment reform planned for later this year, The Daily Telegraph reports
- UK house prices fell by 0.2% from July to August, according to estimates from Nationwide
- However, UK mortgage approvals and mortgage lending both rose to their highest level since the September 2022 mini-budget
- New home construction in the UK fell by 13% in the year to March compared with the preceding 12 months, highlighting the challenges facing the UK government’s push to boost housebuilding
- UK prime minister Keir Starmer warned that “painful” choices were likely in the October budget
- Millions of people were told to evacuate in Japan as a large typhoon hit the country, causing severe damage
- The Chinese central bank intervened in bond markets in an attempt to prop up yields amid concerns that a fall in yields may trigger a liquidity crisis in the banking sector
Business
- Pavel Durov, chief executive of encrypted messaging service Telegram, was placed under formal investigation by a French judge over the alleged failure to tackle criminal activity on the platform. The development has cast doubt over a planned IPO
- Italy is considering a sharp rise in tourist taxes amid popular discontent over the effects of mass tourism
- Chinese carmaker Chery launched in the UK last week and plans to bring a range of petrol, hybrid and electric vehicles. Chery aims to avoid EU tariffs by manufacturing at a plant in Spain
- UK pubs criticised leaked government proposals to ban smoking in pub gardens and outside nightclubs saying it would harm their businesses
- The UK government will not fight a legal challenge to plans to drill two new oilfields in the North Sea that were approved by the previous government, casting doubt on the projects
- OpenAI, creator of ChatGPT, is in talks for a new funding round that would value the company at over $100bn, the Wall Street Journal reports
- Leading AI chip manufacturer Nvidia announced revenue growth of 122% in the second quarter year on year but saw a marked fall in its share price amid concerns over whether its remarkable growth may be slowing
Global and political developments
- Ukrainian president Volodymyr Zelensky said that the situation near Pokrovsk in eastern Ukraine was “extremely difficult” following reports that Russian troops were continuing to advance. Some commentators questioned the decision to redeploy assets to support the invasion of Kursk
- Mr Zelensky said that the capture of territory in the Kursk region of Russia gave Ukraine collateral in negotiations to end the war through diplomatic means
- Kyiv continued to pressure the US to allow Ukraine to strike targets inside Russia with American-supplied missiles
- The UK and Germany announced that they hope to sign a new bilateral treaty “by early next year” as part of what UK prime minister Keir Starmer called a “reset” of UK relations with the EU
- Houthi rebels reportedly agreed to allow the salvage of a burning oil tanker in the Red Sea that it had targeted amid concerns of severe environmental damage
- The FT reported that Justin Trudeau is planning to roll back Canada’s liberal migration policy by changes to the country’s foreign worker scheme
- In a blow to mainstream parties in Germany the far-right party AfD won its first regional election, winning the most votes in the eastern German state of Thuringia
And finally… Japanese media reported that Japan’s raccoon population is proving an increasing nuisance. The non-native species is particularly fond of beer which it has been known to break into homes to steal – hops and robbers