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Astute Market Overview - 8th February 2023


At the top of the week last week, the International Monetary Fund (IMF) released its expectation that the UK economy will shrink in 2023. In fact, the institution said that said that the UK is the only G7 country that is forecast negative GDP growth over the year.

Whilst the IMF don’t have a crystal ball, these forecasts are founded on current economic conditions, and the IMF cited “tighter fiscal and monetary policy and financial conditions” in addition to high inflation weighing on household budgets.

In their continued bid to control inflation, the Bank of England (BoE) increased the base rate last week by 0.50%, from 3.5% to 4%.

Whilst it feels like the only way is up for the base rate, given that it has been hiked from 0.1% in December 2021 to 4% in February 2023, there is evidence to show that we are nearing the peak of interest rates in the UK:

  • For one, the vote on the key interest rate is made by a 9-person committee, and was split 7-2, with two members voting for no increase at all.
  • Additionally, alongside the interest rate decision, the BoE released their quarterly monetary policy report. The central bank forecasts that inflation will fall significantly over 2023, especially given that increases in the cost of energy and other goods in 2022 will become the high benchmark against which 2023 prices are measured.

Given that inflation is falling, and is due to cool considerably by the end of the year, why are the BoE still increasing rates?

To shoehorn in an analogy here, imagine you are on a barge on the Shropshire Union canal. 2% inflation is the target for a healthy economy (in our analogy, a healthy economy being smooth sailing). In 2022, the aftermath of covid supply chain issues, the invasion of Ukraine and soaring energy prices were all unexpected headwinds impacting prices and the economy (and blowing the boat straight towards the bank). The central bank use their monetary policy – interest rates being a key tool – as a skipper would use the tiller on the boat to control the direction. The central bank can see that inflation has started to ease (and the boat has started to change course), but the actions taken at the helm will have a lagged effect.

Therefore, data releases (or otherwise) along the way could well change the course; like any reliable captain, the governor of the Bank of England, Andrew Bailey, will be monitoring the impact of these rate hikes, and watching out for any changing winds on the horizon.

We had a similar story from the US and Eurozone, as they both increased their key interest rates last week.

On Wednesday, the Federal reserve increased interest rates in the US by 0.25%, and all but committed to further increases.

A key piece of US jobs data released last week – non-farm payrolls – showed an increase of 517,000 jobs last month. The release surprised economists, and showed a strong labour market. Given that labour market conditions are a key consideration for the Fed when making decisions, this bolsters the anticipation that further increases will be necessary.

We’ll be back with our regular Astute Market Overview in two weeks. In the meantime, we’ll be watching out for:

  • Eurozone and Japan Q4 GDP
  • UK employment data, and
  • US and UK CPI

See you then.

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