Economy

The writer is a fund manager at M&G and author of ‘Supercharge Me: Net Zero Faster’The European Central Bank’s emergency meeting last Wednesday was a remarkable event. It could be the first time that a central bank confronted by the onset of a crisis has moved early and quickly.Concerns about the structural stability at the heart of the sovereign bond market in Europe have never been silenced. Despite the power of the “whatever it takes” pledge a decade ago by then ECB president Mario Draghi, and extensive bond-buying programmes, markets have consistently priced a credit risk premium into the sovereign debt of some countries.Europe’s sovereign bond market is unique. Debt is issued by member states, but money is created by a supranational entity, the ECB. The power to print money is the basis of the creation of benchmark risk-free assets in a financial system. Without the ECB’s backing, the eurozone has no such asset.But the ECB’s support for the sovereign bond market has always been conditional on consistency with its mandate of price stability. It was the threat of deflation in 2012, and during the pandemic, which gave the ECB the all-clear to provide the limitless support required to halt a panic.Inflation in Europe is a game-changer, and markets know this. This time, the epicentre is Italy — Europe’s largest sovereign bond market — not Greece. Italy’s debt to gross domestic product ratio is far higher than in 2010, at close to 150 per cent. When debt levels are considerably greater than GDP, changes in the interest rate on government debt dominate fiscal arithmetic. The yield on 10-year Italian bonds (BTPs) has risen from 0.5 per cent in September last year, to 4 per cent last week. No estimate of trend growth in Italy is close to 4 per cent. If the ECB had not called an emergency meeting, and sent markets a warning shot, yields could have been 5 or 6 per cent in a matter of weeks, if not days. The ECB has now bought itself time and by moving relatively early and quickly, the central bank has at least broken the psychology that selling BTPs is a one-way bet.But the detail of any serious intervention has been postponed and there is an element of can-kicking. The staff of the ECB has been tasked with drawing up plans to prevent “fragmentation”.In contrast to the pattern of the past 15 years, politics seems less of an obstacle. There are good reasons. Europe has a war on its borders, Italian elections are being held next year and Draghi, now prime minister, is likely to leave the stage. Populists and nationalists have not gone away. It is our collective responsibility to silence rather than encourage them. That must be the line that ECB president Christine Lagarde takes, and all evidence from the public statements of other board members suggests there is sufficient alignment on the need to prevent a renewed crisis.In simple terms, the task is to shrink spreads on bonds of the most vulnerable countries to the point of fiscal sustainability. Whatever measures are introduced will not be presented as such, as it opens the ECB to accusations of institutional over-reach, but we should be clear that this has to be the objective.The technical challenges should not be underestimated. There is now no alternative I can see to directly targeting sovereign spreads. This cannot be achieved by a broader programme of quantitative easing of asset purchases, as the backdrop is a tightening of monetary policy. Nor can it be achieved by tweaking the flows on the ECB’s portfolio of assets bought under its pandemic emergency purchase programme.Sovereign spread targeting by a central bank has never been done before. The outline of a programme would involve creating a reference basket of “safe” European sovereign bonds from core eurozone countries such as Germany and determining an acceptable spread for each market. The ECB would then commit to enforcing a cap on these spreads. In principle, none of the actual numbers need to be made explicit. Markets will deduce the point of intolerance from intervention.We need to be clear about the risks. In extremis, the ECB becomes the market-maker for BTPs or other bonds. Liquidity could disappear. How will Italy issue debt in the primary market, and at what price? Can the arrangements be gamed by market participants? How will the ECB exit?None of these risks are insurmountable. They are also worth taking. The alternative does not bear contemplation. The ECB will need to provide answers in the next few weeks, or markets will draw their own conclusions. More

Reserve Bank of Australia (RBA) Governor Philip Lowe said price pressures continued to build both globally and domestically and inflation was now seen reaching 7% by the end of the year, up from a previous forecast of 6%.That would be the highest pace in decades and far above the RBA’s long-term target band of 2-3%.”As we chart our way back to 2 to 3% inflation, Australians should be prepared for more interest rate increases,” warned Lowe in a speech. “The level of interest rates is still very low for an economy with low unemployment and that is experiencing high inflation.”The official cash rate is currently at 0.85% having been lifted by 50 basis points earlier this month following an initial quarter-point hike in May.Markets are priced for another half-point increase in July and then a string of rises to take rates as high as 3.75% by the end of the year.That would be one of the most aggressive tightening cycles on record and would take rates well above the 2.5% level that Lowe has indicated was around neutral for the economy.”I want to emphasise though that we are not on a pre-set path,” Lowe emphasised on Tuesday. “How fast we increase interest rates, and how far we need to go, will be guided by the incoming data and the Board’s assessment of the outlook for inflation and the labour market.”In particular, the RBA would be watching how household spending responded to rising borrowing costs given real wages were falling and house prices were easing from their highs.Still, Lowe said it was important that inflation expectations remain anchored around 2-3% and that higher prices now did not feed through to expectations of rising inflation in the future.”Higher interest rates have a role to play here, by helping ensure that spending grows broadly in line with the economy’s capacity to produce goods and services,” said Lowe. More

SYDNEY (Reuters) – Australia’s central bank said on Tuesday its pandemic stimulus programme to keep short-term bond yields low was successful for much of its life but the exit was disorderly and caused the bank some “reputational damage.”In a review of its yield target, the Reserve Bank of Australia (RBA) said it was unlikely to use any yield target again, preferring to just purchase bonds in set amounts across maturities.In particular, it was now clear the 21-month month experiment with the yield target should have ended earlier and any new programme would be shorter.”The target was met for the bulk of the period, but the exit in late 2021 was disorderly and associated with bond market volatility and some dislocation in the market,” the RBA said. “This experience caused some reputational damage to the Bank.”The programme began in March 2020 as part of a massive pandemic stimulus package. It was initially aimed at keeping yields on three-year Australian government bonds around 0.25%, though it was lowered to 0.1% later that year.For most of its life, the plan worked to keep yields and market interest rates lower than they would otherwise have been and to put downward pressure on the local dollar.However, in late 2021 yields began to rise as the market began to price in the risk of an earlier-than-expected increase in the cash rate.The RBA initially bought bonds to defend the target but in late October stepped away from the market, sending yields surging and triggering heavy losses in bond futures.”The ending of the yield target was challenging for a number of financial market participants, including those that expected the target to be retained,” the RBA said.”Additionally, Bank purchases to defend the yield target have come at a financial cost given the subsequent rise in yields.”As a result, the RBA’s decision-making Board had agreed to strengthen the way it considers the full range of scenarios when making policy decisions, especially where they involve unconventional policy measures, the review said. More

Rolls-Royce is to give £2,000 as a one-off payment to 14,000 of its UK workers in the latest sign of employers reacting to the cost of living crisis. The UK aero-engine group told staff on Monday that it would give the cash lump sum to 11,000 shop-floor workers as well as 3,000 junior managers. The shop-floor workers are also being offered a 4 per cent pay rise for 2022, backdated to March. Rolls-Royce is one of the largest manufacturers in the UK, employing just under 20,000 people at its plants across the country, including at sites in Derby and Bristol. Under the proposals, first reported by Sky News, junior managers will receive the bonus in August. Union members will receive it once the offer has been accepted by Unite, the union. The company is among a handful of employers that have decided to award employees additional pay to help with rising food and energy costs in recent weeks. Lloyds Bank this month announced that 64,000 employees would receive a £1,000 bonus.

Warren East: ‘We are living through exceptional times’ © Bloomberg

In a memo to staff outlining the offer, Warren East, Rolls-Royce chief executive, said: “We are living through exceptional times, with economic uncertainty largely driven by the continuing impact of the global pandemic and more recently the war in Ukraine.“All of this is impacting each of us at home, at work and in our pockets.”East goes on to say that a “simple wage increase” is “just not affordable and, in fact it would be irresponsible”, adding that it would damage the company’s “future competitiveness in the UK, by adding too much cost into the long-term wage bill at times of such high uncertainty”. 

The FTSE 100 company, which is paid by customers according to hours flown by aircraft fitted with its engines, took a big financial hit from the grounding of flights during the coronavirus pandemic. It cut thousands of jobs and was forced to shore up its balance sheet with £7.3bn of new equity and debt in 2020. The pay proposals will cost the company about £45mn. Rolls-Royce told investors in February that it expected to be “modestly” cash positive this year, with analysts forecasting it will generate £134mn in free cash flow. Rolls-Royce said the £2,000 lump sum was to help its workers “through the current exceptional economic climate”. The company added that the 4 per cent increase being offered to shop floor staff represented “the highest annual pay rise for at least a decade” and, together with the cash sum, “these measures represent around a 9 per cent pay increase for them”. More

EY’s plan to split its audit and advisory operations is set to hand partners shares worth up to $8mn each, according to individuals with knowledge of internal plans. The Big Four firm is preparing to break up its global business as part of the biggest upheaval of the accounting sector in two decades. Under the plans, EY is aiming to take its fast-growing consulting business public, hiving it off from the group of accountants who audit clients such as Facebook, Google, Amazon and Oracle. The audit business would remain a network of partnerships after the break-up, while its advisory business would become a public company. According to the individuals, the firm is hoping to sell around 15 per cent of the consulting business for more than $10bn, leaving 70 per cent in the hands of its partners. Partners joining the new consulting business are expected to receive shares worth between seven to nine times their annual remuneration, potentially reaching a value of $8mn.Explainer: Our accountancy correspondent Michael O’Dwyer breaks down how to split a Big Four firm — and keep 13,000 partners happy.Thanks for reading FirstFT Asia. Here’s the rest of the day’s news — Emily Five more stories in the news1. China IPO fundraising doubles US total to top global ranks Total fundraising from initial public offerings in China has hit almost $35bn this year, compared with just $16bn on Wall Street, according to data from Dealogic. During the city’s strict Covid lockdown Shanghai officials camped out at the city’s stock exchange to ensure a steady flow of deals. 2. Worries of EU fossil fuel ‘backsliding’ The European Commission President Ursula von der Leyen has warned EU member states not to backtrack on their long-term drive to cut fossil fuel use, as Germany, Austria and the Netherlands said they would fire up coal plants after Russia moved to limit gas supplies.More from the war in Ukraine: Moscow has threatened to retaliate against Lithuania after the Baltic state halted the rail transport of Russian goods under EU sanctions to the exclave of Kaliningrad.3. Israel faces fifth election in three years Prime minister Naftali Bennett and foreign minister Yair Lapid said that they had “exhausted options to stabilise” their coalition government. Bennett’s office said that Israel’s parliament would vote on dissolving itself next week, and that — as foreseen by the coalition agreement — Lapid would then become interim prime minister. Elections are likely to be held in October.4. Thiam’s Spac in merger talks with Human Longevity Tidjane Thiam’s blank-cheque company is in advanced talks to merge with a Californian life sciences group founded by genomics pioneer Craig Venter, which offers clients a battery of expensive tests to try to prolong their lives.5. Iron ore price surrenders gains for the year The price of iron ore, a key source of profit for some of the world’s biggest mining companies, has surrendered all of its gains for the year as investors become fearful about waning Chinese demand. Iron ore slumped 8 per cent on Monday to a six-month low of $111.35 a tonne, according to S&P Global Platts, following reports of steel mills in China cutting production.The day aheadAsean defence officials meet Cambodia’s defence minister General Tea Banh will host officials in Phnom Penh today for the 16th Asean Defence Ministers’ Meeting.Northern hemisphere summer solstice Today marks the longest day of the year and the first day of summer for those north of the equator. UK rail strike Railway bosses are preparing to cancel thousands of trains across Britain during strike action that is expected to cripple services, as they warned that the dispute will cost the cash-strapped industry as much as £150mn.What else we’re readingWhy China is not rising as a financial superpower China is breaking the mould, rising rapidly as an economic force but glacially as a financial power, writes Ruchir Sharma. No other economy has grown faster. Yet its stock market has been among the world’s weakest performers.The deafening silence over Brexit’s economic fallout As the sixth anniversary of the UK vote to leave the EU approaches, economists are starting to quantify the damage caused by Britain’s creation of trade barriers with its biggest market, separating the “Brexit effect” from the damage caused by Covid-19. Their conclusion? The damage is not over yet.

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China denies building naval bases but fear of its military reach grows Over the past year, alarm bells have rung every few months in the US and among its allies over alleged Chinese plans for new military bases. But paradoxically, fears about the PLA acquiring a global footprint and China’s denials that it is building many bases may both be justified.Hong Kongers lament passing of the Jumbo floating palace Last week residents flocked to take pictures as tugboats towed Hong Kong’s Jumbo floating restaurant out of the city after the restaurant’s marine licence expired. It represented, Lai told the FT, the loss of a piece of history from Hong Kong’s good old days.How Disney lost Florida The goodwill the company had built among its LGBTQ employees has been stretched to breaking point following its botched response to a proposed Florida law, labelled “Don’t Say Gay” by its critics, to restrict discussion of sexual or gender identity in primary schools.BooksCheck out FT science editor Clive Cookson’s five favourite books of the year so far. These works that include a self-help guide for people keen to sleep better, a concise history of the rise and fall of eugenics, a look at science’s biggest controversies and more. More

CAIRO (Reuters) – The United Arab Emirates will build a new Red Sea port in Sudan as part of a $6 billion investment package, DAL group chairman Osama Daoud Abdellatif, a partner in the deal, told Reuters.Abdellatif said the package includes a free trade zone, a large agricultural project and an imminent $300 million deposit to Sudan’s central bank, which would be the first such deposit since an October military takeover.Western donors suspended billions in aid and investment to Sudan after the coup, plunging an economy that was already struggling into further turmoil and depriving the government of much needed foreign currency.Ibrahim told Reuters on Wednesday that a memorandum of understanding had been signed with the UAE for a port and agricultural project, but the details have not previously been reported. The finance ministry did not immediately respond to a request for comment on details of the deal.The $4 billion port, a joint project between DAL group and Abu Dhabi Ports, owned by Abu Dhabi’s holding company ADQ, would be able to handle all kinds of commodities and compete with the country’s main national port, Port Sudan, Abdellatif said.Located about 200 km (124 miles) north of Port Sudan, it would also include a free trade and industrial zone modelled after Dubai’s Jebel Ali, as well as a small international airport, he said.‮ ‬ The project is in “advanced stages,” with studies and designs complete, he said.Rumours of Gulf investments in Port Sudan, and in agricultural projects elsewhere in the country, have in the past stirred opposition and sometimes protests.Port Sudan has long been plagued with infrastructure challenges and was shut by a political blockade for six weeks late last year, losing business from major international shippers.The UAE deal also includes the $1.6 billion expansion and development of an agricultural project by Abu Dhabi conglomerate IHC and DAL Agriculture in the town of Abu Hamad in northern Sudan, Abdellatif said.Alfalfa, wheat, cotton, sesame, and other crops would be grown and processed on the 400,000 acres of leased land, he said. A $450 million, 500 km (310 mile) toll road connecting the project to the port would be built as well, financed by the Abu Dhabi Fund for Development.Under the agreement, the Fund would also make a deposit of $300 million to the Central Bank of Sudan, Abdellatif said.Abdellatif said the agreement was reached initially in July 2021, under a civilian-led transitional government.Two sources from the former cabinet, who asked not to be named, said a different version of the deal had been reviewed last year but ultimately did not move to a vote due to reservations.Two high-level current Sudanese officials told Reuters the outlines of the new deal had been agreed between Sudanese leader General Abdelfattah al-Burhan and UAE President Sheikh Mohamed bin Zayed during a recent visit to the Gulf state. A representative for Abu Dhabi Ports said the company had no comment, while representatives for ADQ, the Abu Dhabi Fund, IHC, and the Abu Dhabi and UAE governments did not immediately respond to requests.”Ourselves and our partners in the UAE, we have already invested in a bank, a hotel, mining,” said Abdellatif, whose conglomerate has also bid for control of one of Sudan’s largest telecom companies, Zain Sudan.”The UAE wants a stable Sudan so they can do more and more of these investments, but we are not waiting for everything to be perfect,” he added.After the military ousted Omar al-Bashir in 2019 following popular protests, the UAE and Saudi Arabia pledged a combined $3 billion in grants and in-kind aid to Sudan, which military and civilian leaders say was not delivered in full. More

The percentage of Cape Verdeans facing a food crisis currently stands at 9% of the population, up from just 2% in 2020, Prime Minister Jose Ulisses Correia e Silva said at a press briefing.Many of around 484,000 inhabitants have also been struggling to afford fuel since global prices soared, creating an “inflationary crisis” in the import-dependent country off the tip of West Africa.The government on Monday adopted a flurry of measures to cushion the blow, including food assistance and subsidies, tax reductions and fuel price caps.The total cost of implementing these “extraordinary fiscal measures” is 8.9 billion escudos ($84.82 million) by the end of 2022, Correia e Silva said.Cape Verde’s tourism-driven economy still struggling to recover from the pandemic.Border closures and travel restrictions pushed budget deficit to 10% of GDP and public debt ratio to over 155% of GDP, Correia e Silva said. ($1 = 104.9300 escudos) More

Once inflation psychology sets in, consumers bring forward their spending to beat the rise in prices while businesses start lifting their own prices, expecting higher costs, with both behaviours perpetuating inflation.”We have very high inflation rates now, and clearly we could be in a world where inflation psychology is taking hold,” Lane told the annual dinner of Britain’s Society of Professional Economists in London. More