Sunday, January 23, 2022
Sterling shows that traders are relaxed about a change of PM
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

My regular column is available to subscribers on This is an excerpt. Not to be reproduced without permission.

Markets can be very cruel. I always think that it adds insult to injury when, after a boardroom struggle, a long-serving chief executive is forced out and the share price responds by rising, in a “resignation rally”.

There is no national share price but the performance of the pound can be a reasonable proxy, The currency markets have made some big calls in recent years. Sterling fell sharply during the financial crisis, on the argument, which was both logical and largely borne out by events, that the UK was more vulnerable to it than most other countries.

It fell again after the EU referendum in 2016 – the biggest short-term fall of any major currency in the floating rate era – on the view that Brexit would be damaging to the UK economy and British politics, again largely borne out by events.

In recent weeks something else rather interesting has been happening into the pound, as measured by the sterling index, its average value against other currencies. You might think that a prime ministerial crisis, with Boris Johnson hanging on by his fingernails, would be bad for sterling. But, as his woes deepened, and the revelations kept coming, the pound has been going up, a rally that began in early December.

You might say that many things can affect the currency, and you would be right. The Bank of England surprised many by raising interest rates in December and that could have boosted the pound. But sterling’s rally started before that, and the latest figures, showing inflation at a three-decade high of 5.4 per cent and cementing expectations of a rate rise next month, did not push the pound higher.

Nor does it look to be about Omicron and the response to it. Only very lately, with cases coming down and restrictions being lifted, has that been a factor.

The pound has been rising because, according to currency analysts, markets are either neutral about whether the prime minister is forced from office or think it would be good news for the country if his chaotic leadership were replaced with something more sensible and, yes, prime ministerial.

Though it would depend on who succeeded him, Johnson could find himself in the position of the ousted chief executive, in the sense of his departure being followed by a rise in the pound. When last week he appeared to have headed off the pressure to go for now sterling softened a little.

The succession question may have been postponed for now but one clear frontrunner would be Rishi Sunak. I have not, I should stress, spoken to him about this but I can only imagine what it must have been like living above the shop in Downing Street with parties spilling out into the garden, some of them involving drunken late-night revelries and broken children’s swings.

Anybody who has lived next to a student house will know the kind of thing. The chancellor is teetotal, which probably makes it worse, even apart from the rule-breaking, though he is a self-confessed Coke addict – Coca-Cola I should quickly add.

Sunday, January 16, 2022
The big squeeze is on - and Sunak's tax hikes add to it
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

My regular column is available to subscribers on This is an excerpt. Not to be reproduced without permission.

Inflation is all around us. While this week’s UK figures may only show the annual consumer price inflation rate treading water at around 5 per cent, America has shown where it is heading this spring. Its latest 7 per cent rate the highest since 1982.

Britain has a more chequered inflation history than America, and if the rate gets to 7 per cent as energy and other price increases come through, it will merely be the highest rate since 1992. But that was five years before the Bank of England was given the task of meeting an inflation target, now 2 per cent, “at all times”. That will not happen for quite some time.

Part of the reason for high inflation is the effect of switching the economy off and on again. Figures on Friday, showing a 0.9 per cent rise in gross domestic product in November, and the economy regaining the pre-pandemic levels of output of early 2020, confirmed the unusual nature of this cycle. Normally it takes three years to get back to where we were and after the financial crisis it took five. Even if Omicron now causes some slippage, this was a rapid rebound.

It will be painful news for some that Greggs, the bakery chain, intends to raise prices by 5p or 10p across a range of items. Food prices more generally are rising strongly. Next, meanwhile, says its spring and summer ranges will rise in price by an average of 3.7 per cent, while prices for autumn and winter products will go up by 6 per cent compared with 2021. Clothing prices have been a drag on inflation for many years but, it seems, no longer.

Chris O’Shea, the chief executive of Centrica, which owns British Gas, giving a BBC interview while dressed as if about to go out and service a boiler, warned that high energy prices were likely to last for the next two years, and called on the government to scrap VAT on energy bills and move environmental levies off bills and into general taxation.

One interesting question is what car manufacturers will do when chip shortages ease and new cars become more generally available. They have seen used car prices rise rapidly – up by 31 per cent between April and November last year – and might be tempted to revisit their new car price lists when supplies come back on stream. Some second-hand vehicles are selling for more than the list prices of new ones.

A useful set of projections from economists at BNP Paribas shows that, while inflation in the eurozone should be back below 2 per cent in a year’s time, it will take longer in the UK. The Bank will release new forecasts on February 3, when it is also expected to raise the official interest rate from 0.25 to 0.5 per cent. Its last forecast, In November, merely promised that inflation will be “close to our target in around two years’ time”.

Inflation has been cropping up in unusual places. Germany, normally regarded as the anti-inflation bellwether, saw inflation hit 6 per cent, on a comparable basis, late last year, higher than the UK’s 5.1 per cent, though some of that reflected the unwinding of a temporary VAT cut, which the German government instituted in the second half of 2020, as part of its pandemic response.

It looks on the face of it as if the “Anglo Saxon” inflation problem will last longer than the eurozone’s. That would fit in with the warnings of monetarist economists like Tim Congdon, who warned of the inflationary consequences of huge quantitative easing (QE), for both America and Britain, but also others, like Larry Summers, who warned that Joe Biden’s huge post-pandemic economic stimulus would be inflationary.

Sunday, January 09, 2022
How WFH averted a bigger economic catastrophe
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

My regular column is available to subscribers on This is an excerpt. Not to be reproduced without permission.

We have reached an interesting point in the pandemic, with huge case numbers and a high proportion of infected people in the population, though alongside more reassuring data on the most seriously ill with Covid.

We have also reached the point where one of the most important economic and practical impacts is absenteeism as a result of illness or positive tests. Covid is not flu, but this calls to mind previous flu pandemics, such as the Hong Kong flu which hit the UK in the late 1960s and early 1970s.

That flu pandemic was serious, killing up to four million people worldwide and many tens of thousands in the UK. But one of its most notable effects was on the workforce. When you contracted the flu it was not possible to work, so bus and train timetables had to be reduced to accommodate driver shortages, deliveries were delayed and the NHS had to cope with flu admissions with many of its own clinical staff laid up with it.

There were no lockdowns in flu pandemics, including Hong Kong flu, and the absenteeism it caused did not register in the economic data for the period, unlike Covid-19, which broke statistical records, including the extent of the slump in the economy when it first hit in the spring of 2020.

Fifty years ago, when we were grappling with a nasty flu pandemic, a workplace was a workplace for the vast majority of people, whether it was in a factory, office, shop, building site or train cab. Working from home was unusual and would probably have been regarded as a euphemism for skiving. Some older folk have not moved beyond such attitudes.

Not everybody can work from home even now. The Office for National Statistics suggested that the proportion got close to 50 per cent in periods of 2020 and 2021 but never beyond it.

People have mixed attitudes to working from home. Some people got heartily sick of it. Those running sandwich shops, cafes, wine bars, restaurants and dry cleaners in city centres, as well as public transport operators, cannot wait to see the back of it, though I suspect that now the box has been opened it will not easily be closed.

We are not in lockdown in the UK and I am sticking to my pre-Omicron and pre-Tory rebellion forecast that we will not see another one. We are, however, in “Plan B” in England, with slightly different restrictions elsewhere in the UK, and part of that plan is that people should work from home when they can. As I know from personal experience, some people are working from home even when they have tested positive for Covid. The extended Christmas and New Year break clouds the data but the evidence from rail and Tube use, both of which dropped sharply after the government moved to Plan B, is that many people have adopted the official guidance.

A new research paper points out that, despite its drawbacks, working from home has been of significant economic benefit. The economic declines of 2020 were massive, but they would have been bigger, in some cases much bigger, in the absence of working from home.

The paper, ‘”Potential Capital” - Working from Home, and Economic Resilience’, by Janice Eberly. Jonathan Haskel and Paul Mizen, is published by America’s National Bureau of Economic Research (NBER), and highlighted in its latest research digest. Haskel is a member of the Bank of England’s monetary policy committee.

“The Covid-19 pandemic caused a widespread decline in recorded GDP [gross domestic product],” the paper says. “Yet, as catastrophic as the collapse was, it was buffered by an unprecedented and spontaneous deployment of what we call “Potential Capital,” the dwelling/residential capital and connective technologies used alongside working from home.”

Sunday, January 02, 2022
The rise and fall of inflation - and other 2022 stories
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

My regular column is available to subscribers on This is an excerpt. Not to be reproduced without permission.

At this time of year, it is necessary to look forward, but I also find it useful to look back. In the equivalent column to this one 12 months ago, I gave you my version of the 5:2 diet, five reasons to be cheerful, and two to be a little worried.

The 5:2 diet was, as its name suggests, a weight loss programme once favoured by George Osborne, the last Tory chancellor but two, whose political career ended soon after the EU referendum, and who is now becoming something of a historical figure.

The reasons to be cheerful, despite what was then a grim start to the year, were vaccines, that growth would bounce back strongly with the removal of restrictions, that Donald Trump was no longer around to make a bad world trade situation worse, that the thin trade deal with the EU was better than no deal, and that households had built up a stock of involuntary savings to spend.

The reasons to worry were the virus and its potential variants, and the state of the public finances. On the deficit, hand on heart, I thought the chancellor would wait longer rather than announce, as he did, some humdinger but deferred tax hikes in his early March budget.

I do not have diet analogy to share with you today, though I am quite tempted by the idea of the Paleo, or Paleolithic diet, eating like our caveman ancestors. Mind you, I am not going to be wearing the outfits.

The big picture is not, however, so different to what it was a year ago, though the start of 2021 was quite a bit gloomier than where we are now, and the third lockdown during the winter weeks of January and February was grim.

I will return to this when I do my annual forecasting league table soon but growth forecasts for 2021 were too low – the average was 4.5 per cent, with a high of 6.1 per cent, compared with a likely 7 per cent outturn – because economists were too gloomy about what would happen in the early months of the year. Lockdown 3 was expected to reduce gross domestic product (GDP) by 4 per cent in the first quarter. Had it done so, 2021’s growth would have been much lower. In the event, there was only a 1.3 per cent first quarter fall.

The average new forecast for growth this year, 4.7 per cent, is similar to a year ago, and the same dilemma presents itself. Wil Omicron have only a marginal impact on economic activity in coming weeks, having already led to something of a hit last month, or could it be bigger? On present indications, it looks contained.

Though some sectors are being hammered, in economic terms we are getting better at living with the virus.

We are still worried about the virus and its mutations of course, as we will be for some time, despite encouraging evidence about Omicron. The latest variant, which we can hope but not be sure will be the last, made a fool of those predicting that Covid was on its way out.

We can be a little less worried about the public finances. Though the numbers remain very large by normal standards – the consensus among independent forecasters is that the public borrowing will be £193 billion this fiscal year, 2021-22, and just over £100 billion in 2022-23 – the budget deficit is clearly past its peak. The deficit in 2020-21 was £322 billion, or 15 per cent of gross domestic product, the highest relative to the size of the economy since 1946.

£100 billion is still a big budget deficit by past standards. The Office for Budget Responsibility (OBR) will revisit its forecasts for debt, currently £2.3 trillion or 96 per cent of GDP, and the deficit on March 23. Its recent forecasts have overshot the outturns for government borrowing, though independent forecasters do not expect a repeat of that this year. It is just possible that an improvement in the public finances would allow Rishi Sunak to rein back some of his already announced tax increases, particularly with a cost-of-living crisis underway. But I judge that he would rather keep any spare cash in reserve for eye-catching tax cuts later, were they to be remotely possible.

Sunday, December 26, 2021
The figures tell of a boom year - but it never felt like it
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

My regular column is available to subscribers on This is an excerpt. Not to be reproduced without permission.

We will not remember 2021 with great fondness I suspect. A year in which we were supposed to shake off the coronavirus and return to something like normal turned out rather differently. We end the year almost as we began it, amid great uncertainty.

When future historians look back on it, certainly economic historians, there will be a curiosity. Looking at the latest official figures published a few days ago and assuming only very modest growth in the economy in the current quarter, growth this year will be roughly 7 per cent, give or take a decimal point or two.

In any normal circumstances that would be regarded as a boom. Indeed, in 20 or30 years’ time, when people are looking at the gross domestic product (GDP) data, it will look very much like the fabled V-shaped recovery, and a pronounced one at that.

Context is important. 2021’s growth comes after the slump of 2020, when the economy, we now know, shrank by 9.4 per cent; huge but a bit smaller than earlier estimates. Even so, 2021’s growth looks on the basis of the figures, like boom time for the economy. So why did it never feel like it?

One reason is statistical. If we look back on 2021 then, on the quarterly growth numbers, there was only one really strong three-month period. The year started with a 1.3 per cent quarterly fall in GDP, during the third lockdown, bounced back strongly with a 5.4 per cent expansion in the April-June quarter, ss things re-opened, then slowed to 1.1 per cent in the third quarter, and has probably slowed further in the fourth, under the impact of Omicron.

The growth story of 2021, just like the slump story of 2020, was all about the second quarter. In the second quarter of last year, GDP plunged by 19.4 per cent, and largely explained why 2020’s GDP fall was the biggest in a very long time. This year’s second quarter bounce, which translated into a 24.2 per cent increase compared with a year earlier, is now quite a long way behind us but guaranteed that the final tally for 2021 would be very strong.

There was, however, more to it than this. It never felt like because we always had one eye on Covid, and its recurrence, and one on soaring inflation, together with supply chain problems and shortages of workers in some sectors. Recoveries can bring stresses and strains, but this one brought more than most.

You can perhaps see this best when it comes to business investment. Businesses were given an almighty incentive to bring forward investment by Rishi Sunak in the first of his two budgets this year, back in early March. The 130 per cent “super deduction” against corporation tax was that incentive, and it provided a bridge to the time, in April 2023, when the rate of corporation tax will shoot up from 19 to 25 per cent.

Give it time, perhaps, but the incentive is a long way from producing an investment boom. Figures published just before Christmas showed that business investment fell by 2.5 per cent in the third quarter and was lower than at the end of 2020, before the incentive was introduced. It was a hefty 11.7 per cent below where it was at the end of 2019, before the pandemic struck.

To be fair to business investment, and to the chancellor, some of the latest fall reflected what the official statisticians described as “large decreases” in investment in transport equipment, which probably reflects chip shortages and shortages of new cars and commercial vehicles. But there was also a drop in investment in intellectual property, partly offset by stronger spending on ICT (information and communication technology) and other equipment.

The point still stands, however. Businesses have never been sure this year that the worst was over. They have had to cope with as well as the fear and reality of Covid and inflation, a chaotic and business-unfriendly government which has loaded it with hefty additional taxes, even if most of them are yet to come.

Sunday, December 19, 2021
Awful timing from the Bank - let's hope it's not a futile gesture
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

My regular column is available to subscribers on This is an excerpt. Not to be reproduced without permission.

It never rains but it pours. Just as we are trying to get to grips with the Omicron variant of Covid, along comes inflation. We knew we were experiencing an inflation shock, but the latest figures, showing consume pic inflation at 5.1 pe cent, and retail price inflation two percentage points higher at 7.1 per cent, were a shocker. “Not now, inflation,” was a reasonable response when there was already so much bad news around.

I have hesitated to use the word “stagflation” to describe the current situation, not least because it Is an insult to the great stagflations of the past, some of which had inflation at more than 20 per cent alongside recession.

But this upsurge in inflation has occurred at a time when growth was stagnating even before the Omicron variant came onto the scene and has been pushed into reverse by the economic effects of that variant. If the cap fits, and we should at least acknowledge that we have a mini stagflation on our hands, notwithstanding strong job market and retail sales data.

It was into this environment that the Bank of England raised interest rates on Thursday, from a record low 0.1 per cent to 0.25 per cent. Until the release of the inflation data, most people would have regarded even this modest hike as a non-starter because of Omicron. But to be fair to the Bank, it stuck to its guidance in November, which was that if the labour market held up well after the end of the furlough scheme on September 30, it would hike rates. The inflation figures, embarrassing for a central bank tasked with keeping inflation at 2 per cent, tilted the balance.

Being fair to the Bank only goes so far, however. Though some of us have urged the Bank to tighten policy for many months, initially by reining back its quantitative easing (QE) programme, and more recently by raising rates, this was not a great time to start. The country is reeling under the Omicron wave and the latest surveys, notably the purchasing managers’ survey, shows a sharp weakening of the service sector this month, for understandable reasons. Many businesses ill see this as a kick in the teeth, on top of the other pressures they face. As well as “not now, inflation,” they would say “not now, interest rates”.

When the hike was announced, which according to the Bank will not prevent inflation averaging 5 per cent over the winter and hitting 6 per cent in the spring, it brought to mind a famous comedy sketch.

This was the Beyond the Fringe sketch – younger readers ask your parents or look it up – in which Peter Cook, as a senior RAF officer, tells Jonathan Miller, his junior, to “pop over to Bremen” on a suicide mission, because the war wasn’t going well “and we need a futile gesture.

The Bank would say that while the war on inflation has not been going well, its gesture was not futile. By raising rates at a difficult time, it may have won back a little hawkish credibility. It is, after all, the first major central bank to do so. Last week’s rise, moreover, should be seen as the first in a sequence, which could see several more increases. The Bank was behind the curve, and his was a bit of a catch-up.

Saturday, December 11, 2021
As gloom descends, can house prices continue to defy gravity?
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

My regular column is available to subscribers on This is an excerpt. Not to be reproduced without permission.

Things have moved quite quickly, and the jolt of uncertainty I described last week has increased in intensity. Suddenly, the run-up to this Christmas seems as uncertain as last, if not more, and the country appears rudderless.

New restrictions will have a more discernible impact on the economy and will combine with the changes in behaviour I described last week. It will be surprising if there is not a fall in gross domestic product this month, and a weaker fourth quarter than previously expected.

Rishi Sunak, who spoke out against the new “Plan B” restrictions in cabinet, is concerned not just about the potential economic cost but because there will be pressure to bring back some of the Covid support that he thought he had seen the back of.

The pound, which some analysts had down for a strong 2021 revival, has been suffering. It has been weaker than now in recent years but is now back below the levels it slumped to immediately after the Brexit referendum in June 2016. The vaccine rollout is still going pretty well, but sterling’s vaccination boost has faded fast.

Markets still expect the Bank of England to raise interest rates in time but would be very surprised if it were to happen this week, which at one time was regarded as a near certainty. The decision on rates at one time appeared heavily dependent on what happened to the job market after the end of the furlough scheme. Now there are a wider range of economic considerations.

One interesting question is how this will affect the housing market. Its story has been an extraordinary episode in an extraordinary period. It has boomed even as other parts of the economy have been on their knees. When the 2020 slump loomed with the first lockdown in March 2020, during which the housing market was temporarily closed, a plunge in house prices and activity might have been expected.

In fact, any effect, which was minor, was temporary. Soon, people were using their spare screen time to hunt for houses on the property portals. Helped by record low interest rates and the chancellor’s stamp duty cut, prices and activity were soon surging.

It continues. The official house price index from the Office for National Statistics has house-price inflation at 11.8 per cent. The average UK house price has risen by £28,000 to £270,000 over 12 months.

The Halifax house price index showed that prices in the latest three months, September-November, were up by 3.4 per cent, the strongest quarterly rise since 2006, the eve of the financial crisis. This was significant, in that prices continued to rise even after the stamp duty reduction came to an end on September 30. It suggested that the market, or at least house prices, had enough momentum to see it through the removal of the tax incentive.

Sunday, December 05, 2021
A rollercoaster year ends with a jolt of uncertainty
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

My regular column is available to subscribers on This is an excerpt. Not to be reproduced without permission.

It is at this time of year that I feel sorry for economic forecasters. They have to put together a coherent story for 2022 and yet, as 2021 draws to a close, a significant new uncertainty has emerged. I feel a bit sorry for myself, because I will soon be doing “year ahead” pieces, though I have plenty of opportunities from week to week to nudge things in one direction or another as events unfold.

The uncertainty is the Omicron variant of the coronavirus. It may be, as some early evidence suggests, that its effects are mild and that vaccines remain effective against it, but we do not yet know.

The dilemma was summed up by the Organisation for Economic Co-operation and Development (OECD) in presenting its new Economic Outlook. Its central forecast was positive on both the global recovery and on the UK. Its prediction of UK growth of 6.9 per cent growth this year and 4.7 per cent next, would make this year the strongest in the post-war period. 2021 and 2022, taken together, would also be the best two-year run in the post-war era. We’ll gloss over 2020, when the economy suffered its biggest fall since 1921.

But the OECD also talked of two possible Omicron scenarios. “One is where it creates more supply disruptions and prolongs higher inflation for longer,” said Laurence Boone, its chief economist. “And one where it is more severe and we have to use more mobility restrictions, in which case demand could decline and inflation could actually recede much faster than what we have here.”

The uncertainty has already affected market expectations about what the Bank of England might do next. Before Omicron, a rate rise at the monetary policy committee’s next announcement on December 16 was regarded as a near-certainty. Now it is seen as less than 50-50, despite an intensification of inflationary pressures.

The Bank will not want Omicron to damage the recovery but will not mind too much if it dampens inflation, though it may not be possible to have one without the other. Omicron uncertainty has pushed oil prices lower, with Brent crude falling from more than $80 a barrel to $70 or less.

The emergence of the new variant re-opens one of the great economic debates about the pandemic. Were the enormous falls in economic activity we saw last year mainly as a result of lockdowns and other restrictions? Or did they arise from behavioural changes by people and businesses, as individuals sought to keep themselves safe, and businesses tried to protect their employees, customers and reputations?

The answer is that the economic effects resulted from a combination of the two, with the debate being about how much weight to put on each. It was clear that behaviour was changing quite dramatically before the first UK lockdown began in March last year, though that might have been because it was widely anticipated. When restrictions have been eased it has taken time for activity to return to normal, and in some cases it has never done so.

Restrictions introduced so far in response to Omicron will only have a limited impact on economic activity, though it will have a further significant effect on the travel sector. Lockdowns introduced elsewhere in Europe will slow but not stop its recovery, as noted last week.

So we have to look at the behavioural changes. They are apparent in a flurry of cancellations of events, including Christmas parties, and it seems in people pulling out of restaurant and other bookings. Tentative evidence from Google trends and elsewhere that people’s appetite for going out for entertainment and hospitality has already waned.