The data and surveys from the UK last week were relatively minor in importance, with final-September readings of manufacturing and services PMIs (Purchasing Managers’ Indices) recording a small upward revision to services activity, but overall a contraction for the UK economy. New car registrations rose in September, but that is probably a function of a backlog of orders being delivered and a hangover from the slump in new car sales seen since before the pandemic. In the UK housing market, Halifax reported a small decline in house prices in September versus August, and warned that the squeeze on household incomes would have consequences for housing market demand.

None of the recent news has stopped the Bank of England from repeating warnings about the risks to the economy from persistent inflation. Resident hawk, Catherine Mann, argued for a front-loading of monetary policy tightening to reduce the amount needed in totality, whilst Deputy Governor Ramsden argued that the mini-budget might materially add to inflation pressures (by improving the economic outlook). I’m not in agreement with that assessment, in that it still assumes the economy is running too hot from a demand perspective and takes no account of recent revisions to the GDP (Gross Domestic Product) figures that now indicate the economy never recovered fully from COVID and that this is a supply-side, not a demand-led, problem.

Anyway, the FX markets remain unconvinced by the tightening strategy from the Bank of England. In spite of these comments from Mann and Ramsden, the pound slipped back this week. It fell from a high of $1.1495 on Wednesday to a low of $1.1116 on Friday, and from Tuesday’s high of €1.1561 to Thursday’s low of €1.1340 against the USD and EUR respectively. There are more downside than upside risks, in my view, and I doubt next week’s labour market or monthly GDP and sectoral activity based data will provide anything other than temporary support.

In particular, the UK labour market data may record some increase in the unemployment rate and a sharp correction in employment, reversing recent gains. As for the activity figures, GDP is likely to flat-line, but there is likely to be contraction in industrial output and a very modest expansion in services, according to consensus forecasts, although I think that there may be greater downside risks to GDP and each of its constituent parts. As for the GBP, it could fall back beneath $1.10 versus the USD, but may range trade against the EUR.

Germany’s problems continue to grow. Last week saw the August factory orders and industrial output figures released and both reported a contraction, albeit the drop in orders was far larger than the fall in output. Both of these releases came after the German manufacturing PMI reading for September was revised down. Meanwhile the construction PMI index reported an even larger contraction, and retail sales slumped in August. The German government has announced a package of energy support measures for businesses and individuals that runs into the hundreds of billions of euros, but might not be able to keep the lights and heating on for all nonetheless, given the cuts to gas imports and other strains on the energy supply industry.

Euroland wasn’t the recipient of all bad news last week, with the Bank of France indicating that it expects the French economy to grow around 0.25% quarter-on-quarter in Q3, and strong growth in French and Irish August industrial production counterbalancing the weakness in the German data. However, this week got off to a bad start, with weakness in the Euroland Sentix investor confidence index for October, which dropped to -38.3 from -31.8. That reading was the worst seen since May 2020 and the height of the COVID pandemic.

For the remainder of this week, the only noteworthy releases are the August Euroland industrial production figures and final September consumer price inflation readings from Germany, Portugal, France and Spain. I doubt there is anything in these releases that will offer the euro any support, but the markets might be pleasantly surprised by the industrial production data. The risks for the euro remain to the downside, against the US dollar and to a much lesser extent against other majors also.   

The data and surveys from last week were on the whole disappointing. The news from industry, construction, and the housing market pointed towards deepening problems, and there were signs of increased layoffs and fewer job vacancies from parts of the US labour market. However, the September non-farm payrolls data still grabbed the attention of markets, reporting a sharp increase in net employment, a surprise drop in the unemployment rate, and a reduction in underemployment also. The conflict between indicators of the general economy and the performance of the labour market as recorded by the non-farm payrolls data is growing, but the Federal Reserve is still focused on the overshoot of inflation and the risk it leaks into the general economy. Consumer credit also rose sharply last week, up by a net $32.2bn, with another spike in credit card spending (the third largest on record) responsible for much of the overshoot.

This week sees the release of September consumer price inflation figures and the retail sales data. The risks are that we see a further drop in the headline inflation rate, but a rise in core inflation. Meanwhile, the retail sales figures are predicted to report a modest further increase in sales values. Is the US economy living on borrowed time? Are households hoping for another government bailout to help them with rising bills? The sharp increase in the cost of necessity goods and services, coupled with an additional surge in mortgage finance costs could see the US economy in real trouble as we head into the end of this year and the beginning of 2023.

As for the US dollar, it continues to benefit from a safe-haven status. There has to be some concern that the safety of the US dollar will be eroded if the economy is put under sustained pressure. The risks for the short term though are that the problems in other economies are more apparent and more immediate than those in the US. The markets are probably waiting on the release of the Beige Book, the Federal Reserve’s latest assessment of current economic conditions, which is due a week on Wednesday.

Last week saw a number of interesting meetings from central banks. First up was the Bank of Israel, which raised interest rates to 2.75% from 2%, in line with market consensus. The Reserve Bank of Australia was next up on the calendar, and it surprised markets by hiking less than was priced for, just 25 basis points when the markets expected double that. The National Bank of Poland also did less than expected, holding rates unchanged when a small quarter point hike had been widely expected, but not before the Reserve Bank of New Zealand delivered a 50 basis point hike. With all central banks the concerns on inflation remained, but with a growing proportion, the concerns over the activity or housing was equally as prevalent. The weakness of a number of currencies has continued in spite of the interest rate increases, suggesting that there is no easy way out of the current situation regarding high inflation, weak growth and weak exchange rates versus the US dollar.

This week sees only the central banks of Chile, South Korea and Singapore due to announce. A 75 basis point hike in interest rates is expected from Chile, whilst the Bank of Korea is expected to hike by 25 basis points. As for the Monetary Authority of Singapore, with inflation still elevated the prospects are for another tightening, but by influencing the exchange rate, rather than an interest rate hike. All central banks will be wary of doing too much, or too little, with a Federal Reserve decision around 3 weeks away.