Aurelia Butler

At this stage in the inflationary process, a central bank needs to show moral fibre. Last week’s 0.5 percentage point rise in the Bank of England’s intervention rate was unquestionably necessary. It may even be that the resulting 5 per cent rate will not be the peak. Nevertheless, doing whatever it takes to bring inflation to target is more than merely desirable, it is the bank’s legal duty. Nobody on the Monetary Policy Committee is free to ignore this obligation.It is also by now impossible to persist with the fancy that what is going on in the UK is no more than a temporary bout of imported inflation. The latter was always likely to launch an inflationary process. So, indeed, it has. Annual core inflation (which excludes food and energy prices) was 7.1 per cent in the UK in the year to May, services inflation was 7.4 per cent and the three-month moving average annual growth of private sector pay (excluding bonuses) in April was as high as 7.5 per cent.Such a rate of pay rises is not surprising. In April, real average weekly earnings were 4 per cent below their level two years earlier and at the same level as in August 2007. The unemployment rate in the first quarter of 2023 was also only 3.9 per cent. This indicates a pretty tight labour market. Why, in these circumstances, would anybody expect workers to accept large reductions in real earnings? At the same time, current rates of pay inflation are clearly incompatible with 2 per cent inflation.

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Something has to change, radically and soon. We are seeing a price-price and wage-price spiral radiating throughout the economy. The only way to halt this is to remove the accommodating demand. In other words, the question is not whether there will be a recession; it is rather whether there needs to be one, if the spiral is to be halted. The plausible view is that the answer to the latter part of this question is “yes”. Like it or not (I certainly do not), the economy will not get back to 2 per cent inflation without a sharp slowdown and higher unemployment.This raises four questions.The first is whether current monetary policy is tight enough. The argument that it might be is that borrowers are highly vulnerable to higher nominal interest rates, after a long period of ultra-low rates. Against this, today a 5 per cent nominal rate implies a real rate of less than minus 2 per cent. Moreover, the squeeze will come quite slowly. According to the Financial Conduct Authority, in the second half of 2021, 74 per cent of mortgages were at interest rates fixed for between two and five years. In sum, rates may have to rise again.The second is whether the government should cushion the blow to borrowers. The answer is: absolutely not. One reason is that people with large mortgages are relatively well off, as Torsten Bell of the Resolution Foundation points out. The right policy is rather targeted assistance for the most vulnerable. Another reason is that this would defeat the object of the exercise, which is to tighten demand. If fiscal policy were to offset this, monetary policy would have to be still tighter than otherwise. If the desire is to moderate the monetary squeeze, fiscal policy should be tightened, not loosened.

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The third is whether the uncertainty that surrounds all these decisions should itself encourage extreme caution in tightening. Unfortunately, it is not so simple. True, there exists much uncertainty about the strength of the underlying inflationary pressure and so about how deep an economic slowdown is needed to bring it under control. There exists, similarly, much uncertainty about how much tightening is needed to bring about such a slowdown. But if one is determined to bring inflation back to target in the near future (that is, in less than two years), it is untrue that the smaller mistake would be to err on the side of optimism about how easily inflation will fall. Doing less would reduce the slowdown now. But, if it failed to deliver the needed fall in inflation, a still bigger slowdown might be needed later on, when inflation would be still more entrenched.The last question is whether it is worth the effort: why not just give up on the target and accept, say, 4 or 5 per cent inflation? The answer is that if a country abandons its solemn promise to stabilise the value of the currency as soon as it becomes hard to deliver, other commitments must also be devalued. At home and abroad, many will conclude that the UK is unable to keep its promises when things get tough. That is what happened, to a significant degree, in the course of the 1970s: the UK started to be a joke. To repeat this, particularly after Brexit, would be an unpardonable — possibly even incurable — [email protected] Follow Martin Wolf with myFT and on Twitter  More

Eurozone inflation is likely to keep falling when the data for June is published on Friday but rate-setters at the European Central Bank will be watching to see if price growth is still rising after energy and food prices are excluded.Consumer prices in the single currency bloc are expected to be up 5.7 per cent in the year to June, compared with 6.1 per cent a month earlier, according to a Reuters poll of economists. However, the ECB is intently focused on underlying price pressures, which could remain sticky even as energy prices drop from last year’s surge. Services prices are likely to be boosted by the comparison with last year, when Germany launched heavily subsidised public transport tickets.Andrew Kenningham, an economist at research group Capital Economics, said he expected the difference in German transport prices to boost the eurozone’s core inflation — stripping out energy and food prices — to 5.5 per cent in June, up from 5.3 per cent in May.There were signs of cooling price pressures from S&P Global’s survey of purchasing managers last week, showing companies’ selling prices rose at the slowest rate for 27 months. But higher wages kept pushing up their input costs.“The bottom line is that, looking through the volatility, it is not yet clear that services inflation is falling; indeed, it might surprise on the upside next week,” said Kenningham. “So the ECB will stay hawkish in its rhetoric.” Martin ArnoldWill the Fed’s preferred inflation measure show prices cooling? Investors will also be watching the core personal consumption expenditures index, the Federal Reserve’s preferred measure of inflation, for the latest indication of inflationary pressures in the US. The data is expected to show that the price gauge — which strips out the volatile food and energy sectors — rose 4.7 per cent year on year in May, the same level as April, according to economists polled by Reuters. Core PCE has stagnated between 4.6 and 4.7 per cent since the beginning of the year, and has been of significant concern to the Fed. The stubbornly high core PCE figure is part of the reason why the Fed has suggested it will have to increase interest rates twice more this year even after pausing its rate-raising cycle in June. In its summary of economic projections this month — the so-called dot plot — the Fed projected that core PCE would end the year at 3.9 per cent, up significantly from its forecast of 3.6 per cent in March. Some analysts think the Fed is being overly pessimistic. Gabriele Cozzi and Matt Raskin of Deutsche Bank this week published research suggesting core PCE could end the year around 3.5 per cent as the economy slows.Kate DuguidHow weak is the UK housing market?Soaring interest rates are rattling the UK property market, data on house prices and mortgage approvals out next week is set to show.Mortgage rates have soared in the past month to levels not seen since the 2008 financial crisis after official figures revealed higher than expected wage growth and inflation. The price pressures pushed the Bank of England to raise rates more than forecast, by half a percentage point to 5 per cent, the highest level since 2008. Markets now expect the central bank to increase rates to 6 per cent by the end of the year.Figures on mortgage approvals for May, to be published by the BoE on Wednesday, will not fully capture the sharp increase in rates at the end of that month, but they are likely to show ongoing weakness in the market. Ellie Henderson, economist at Investec, has forecast that the figure will be 50,000, up from 48,700 in April, but 25 per cent below the level in May 2022. “It will be the numbers for June and beyond that will reveal the impact of now much higher mortgage rates on housing market momentum,” she said.She also forecast that the Nationwide house price index, due to be released at the end of the week, will show a 3.9 per cent annual decline in June, the steepest since 2009. “The market is clearly turning,” said Myron Jobson, senior personal finance analyst at Interactive Investor. “House prices remain squarely on the downwards trajectory as the impact from the affordability squeeze from high mortgage rates and high inflation continues to filter through.” Valentina Romei More

LONDON (Reuters) – The world’s central bank umbrella body, the Bank for International Settlements (BIS), called on Sunday for more interest rate hikes, warning the world economy was now at a crucial point as countries struggle to rein in inflation. Despite the relentless rise in rates over the last 18 months, inflation in many top economies remains stubbornly high, while the jump in borrowing costs triggered the most serious banking collapses since the financial crisis 15 years ago.”The global economy is at a critical juncture. Stern challenges must be addressed,” Agustin Carstens, BIS general manager, said in the organisation’s annual report published on Sunday.”The time to obsessively pursue short term growth is past. Monetary policy must now restore price stability. Fiscal policy must consolidate.”Claudio Borio, the head of BIS’s monetary and economics unit, added there was a risk an “inflationary psychology” was now setting in, although the bigger-than-expected rate hikes in Britain and Norway last week showed central banks were pushing “to get the job done” in terms of tackling the problem.Their challenges are unique by post-World War Two standards though. It is the first time that, across much of the world, a surge in inflation has co-existed with widespread financial vulnerabilities. The longer inflation remains elevated, the stronger and prolonged the required policy tightening, the BIS report said, warning that the possibility of further problems in the banking sector was now “material”.If interest rates get to mid-1990s levels the overall debt service burden for top economies would, all else being equal, be the highest in history, Borio said. “I think central banks will get inflation under control. That is their job – to restore price stability,” he told Reuters. “The question is what will the cost be.”BANKING CRISES The Swiss-based BIS held its annual meeting in recent days, where top central bankers discussed the turbulent last few months.March and April saw a failure of a number of U.S. regional banks including Silicon Valley Bank and then the emergency rescue of Credit Suisse in the BIS’s own backyard. Historically, about 15% of rate hike cycles trigger severe stress in the banking system, the BIS report showed, although the frequency rises considerably if interest rates are going up, inflation is surging or house prices have been rising sharply.It can even be as high as 40% if the private debt-to-GDP ratio is in the top quartile of the historical distribution at the time of the first rate hike.”Very high debt levels, a remarkable global inflation surge, and the strong pandemic-era increase in house prices check all these boxes,” the BIS said.It estimated too that the cost of supporting aging populations will grow by approximately 4% and 5% of GDP in advanced (AEs) and emerging market economies (EMEs) respectively over the next 20 years. Absent belt-tightening by governments, that would push debt above 200% and 150% of GDP by 2050 in AEs and EMEs and could be even higher if economic growth rates wane.Part of the report published already last week also laid out a “game changing” blueprint for an evolved financial system where central bank digital currencies and tokenised banking assets speed up and smarten up transactions and global trade.Commenting further on the economic picture, Carstens, former head of Mexico’s central bank, said the emphasis was now on policymakers to act.”Unrealistic expectations that have emerged since the Great Financial Crisis and COVID-19 pandemic about the degree and persistence of monetary and fiscal support need to be corrected,” he said.The BIS thinks an economic “soft, or soft-ish” landing – where rates rise without triggering recessions or major banking crashes – is still possible, but accepts it is a difficult situation.Analysts at Bank of America (NYSE:BAC) have calculated there have been a whopping 470 interest rate rises globally over the past 2 years compared with 1,202 cuts since the financial crash.The U.S. Federal Reserve has lifted its rates 500 basis points from near zero, the European Central Bank has hiked the euro zone’s by 400 bps and many developing world economies have done far more.The question remains what more will be needed, especially with signs that companies are taking the opportunity to boost profits and workers are now demanding higher wages to prevent a further erosion of their living standards.”The easy gains have now been reaped and the last mile is going to be more difficult,” Borio said, referring to challenges central bankers now face reeling inflation back to safe levels. “I wouldn’t be surprised if there were more surprises”. (This story has been corrected to change the combined rise ECB rate hikes to 400 basis points from 375 basis points in paragraph 22) More

Chan told Commercial Radio Hong Kong that residents want to upgrade homes after starting families so the government is discussing with the de facto central bank to adjust mortgages to sizes that balance buyer interest and financial security.Market participants have been urging the government to relax property market curbs after home prices in one of the world’s most expensive markets dropped 15% last year. Chan has previously said repeatedly he had no intention of doing so.Currently buyers can borrow up to 50% of the cost of mid-sized-to-large homes priced over HK$12 million ($1.53 million).The government relaxed rules in February 2022 to allow first-time buyers to borrow up to 80% for homes costing HK$12 million or less, and 90% for homes priced HK$10 million or less.($1 = 7.8298 Hong Kong dollars) More

Governments around the world should raise taxes or cut public spending to help central banks tame inflation and mitigate the risk of a financial crisis, the Bank for International Settlements has said. The central bankers’ bank, which often operates as an informal mouthpiece for the institutions, said governments were “testing the boundaries of what might be called the region of stability” by leaving fiscal policy loose while inflation remains high and interest rates are rising rapidly.“[Fiscal] consolidation would provide critical support in the inflation fight,” the BIS said in its annual report, published on Sunday. “It would also reduce the need for monetary policy to keep interest rates higher for longer, thereby reducing the risk of financial instability.”Traditionally there has been a separation between fiscal policy, set by governments, and monetary policy, set by central banks and targeted to control inflation, while taking account of the levels of public spending and taxation.Central bankers have insisted that they are confident in their abilities to separate monetary policy decisions from financial stability concerns, but the BIS’s concern contrasts with those assurances.The chances of a financial crisis are significant given that interest rates are high and still rising, the BIS said. However, it added that these risks could be reduced if governments tightened fiscal policy, taking some pressure off interest rates as the primary policy tool and strengthening countries’ public finances. High interest rates have already caused serious financial turmoil in the past year, the BIS said, citing the UK government bond and pension fund crisis last October and the failure of US regional banks and Credit Suisse this spring.Agustín Carstens, head of the BIS, said inflation was falling in most countries but “the last mile is typically the hardest”.“The burden is falling on many shoulders, but the risks from not acting promptly will be greater in the long term. Central banks are committed to staying the course to restore price stability and protect people’s purchasing power,” he said.The BIS warned that, in the longer term, governments and central banks should avoid seeking to solve all of society’s problems with economic stimulus. This echoed recent advice from the OECD.Central bankers kept rates too low for too long when inflation was below target because this encouraged the private sector to pile on debt, adding to eventual financial sector vulnerabilities, the BIS said. “Once price stability is re‑established, monetary policy could be more tolerant of moderate, even if persistent, shortfalls of inflation from point targets,” the report said. It added that instead of seeking to boost growth and offsetting crises with public spending surges, governments should recognise that weaker public finances ultimately limit their ability to react in a crisis. “Policymakers need to have a keener recognition of the limitations of macroeconomic stabilisation policies,” the report said. “Monetary and fiscal policy can be a major force for good, but, if overly ambitious, can also cause great damage.” Monica Defend, head of Amundi Institute, said: “We need by far more co-ordination between fiscal and monetary [policy], and we are not there yet. The fiscal stance should be dynamic, meaning really adapting to preserve social wellbeing, but at the same time being quite focused and targeted.”This pressure will mount as the transition towards greener energy alternatives advances in the coming years, Defend warned. “The key issue is, who is going to finance it? How can we seriously go down that road without co-ordination between fiscal and monetary [policy]?”James Knightley, chief international economist at ING, said: “You can’t really have macro stability without financial stability, and if you are focusing too much on one at the expense of the other, that is when risks do materialise.”Additional reporting by Colby Smith in Washington More