Week ending 21st July 2023.

This week, investors digested fresh rounds of corporate earnings and the FTSE 100 index maintained its positive momentum throughout the week, after a softer-than-expected CPI report.

Wednesday’s (19th July 2023) UK CPI report for June came in lower than expected at 7.9% year on year, and the fall was mainly due to a negative contribution from petrol and other fuels. We have long argued that UK inflation will fall sharply this year simply due to what is known as base effects which are now coming to fruition. After Ofgem’s consumer energy price cap reduction this month, which mirrors the declines in wholesale gas and electricity prices, inflation is expected to continue to fall in the coming months. CPI could potentially be below the BoE’s 2% target by the end of the year.

Also in the UK this week, data showed retail sales rose by 0.7% from the previous month in June 2023, strongly beating market expectations of 0.5%. This was the third straight month of growth in retail trade and the steepest pace in the sequence, boosted by summer sales and the impact of good weather. Despite the fall in consumer confidence also reported, the latest sales data highlighted the resilience of consumers in the face of higher interest rates. Investors are divided as to whether UK policymakers will opt for a smaller 25 bps or 50bps hike at the next meeting on the 3rd of August.

Looking to the US, a number of strong corporate earnings have created optimism for a soft landing for the economy. This week, US jobless claims demonstrated signs of labour market resiliency bolstering the case for policymakers to raise rates further.

Investors are eagerly awaiting the interest rate decisions from the Federal Reserve and the European Central Bank next week. The Fed decided to pause interest rates in June, to allow for policy lags. As usual, investors have been closely monitoring the policymaker’s statements and signals to gauge the direction of future interest rate movements. The Federal Reserve considers various economic indicators and factors like inflation, employment data, and GDP growth to determine its interest rate policy. After the annual inflation rate in the US slowed to 3% in June of 2023 and fresh signs of labour-market resiliency markets have priced in a 25-basis point rate hike. Many are hoping this will be the final hike in the cycle.

European Central Bank (ECB) remains firm that inflation will persist at elevated levels for an extended duration and has strongly hinted at the likelihood of another 25bps rate hike this month and will contemplate another hike in September. So far, there have been a series of eight consecutive rate hikes since July 2022, amounting to 400 basis points, spurring debates among investors and analysts regarding the required number of additional rate increases and the length of time rates need to be kept elevated to reach the 2% inflation target.

The lags associated with monetary policy pose challenges for central banks when attempting to steer the economy in the desired direction. Policymakers need to carefully consider economic conditions and the possible consequences before implementing further increases in interest rates. The goal is to strike a balance between controlling inflation and maintaining sustainable economic growth without causing severe disruptions to the economy.

As well as key decisions from central banks data wise next week we have flash PMI data from Eurozone, UK & the US. US durable goods, GDP for Q2 and at the end of the week we have the Fed’s preferred measure of inflation PCE. China’s Politburo of the ruling Communist Party will meet to discuss the economy. The committee are expected to provide some clues on whether fresh policy stimulus will be announced.

As well as key decisions from central banks in Europe, Japan & the US. We also have flash PMI data from Eurozone, UK & the US. US durable goods, GDP for Q2 and at the end of the week we have the Fed’s preferred measure of inflation PCE.

Kate Mimnagh, Portfolio Economist