5 things we learnt from a macroeconomist
All eyes are on the Bank of England today as they raised interest rates to 3% in its largest single hike for 33 years. Ahead of this Audley hosted a discussion with a macroeconomist about what the current economic crisis could mean for markets on a global level. Here are five things we learned:
1. We are still recovering from a Covid-19 hangover.
At the start of 2020, economists predicted that Covid-19 would represent the deepest recession since the Second World War. However, governments acted fast, implementing aggressive fiscal and monetary policies which kept households afloat in the US and UK and ensured recovery was swift. The downside is that this has contributed to the ‘overheated economy’ that governments and central banks are battling with. We have moved from a low base to an economic climate defined by high inflation, tight labour markets and high shelter costs. What central banks do next is critical.
2. All eyes should be on the decisions of the Federal Reserve.
The US dollar is the strongest it's been for two decades. When the dollar is strong it hurts other currencies such as the UK, where the pound is slumping and we have less purchasing power. However, the outlook for the US economy right now is being defined by the actions of the Federal Reserve, which is trying to bring inflation down by raising interest rates. On Wednesday, it delivered its fourth consecutive 0.75 percentage point rate rise, marking another aggressive move to bring down inflation. As US monetary policy chair Jay Powell said in September, ‘no one knows whether this process will lead to a recession or if so, how significant that recession would be’ and economists are thus concerned that more tightening could mean a higher probability of a downturn.
3. A recession is likely by the middle of next year, but there is a silver lining.
With high inflation, consumers are pulling back on spending and we are seeing a protracted goods trade slow-down. At its core, the recession will be powered by people incrementally capping their own spending and we may see a slow churn, rather than a monumental crash that most didn’t see coming in 2008.
While no one can doubt the negative impact of a recession on people’s livelihoods, this slowdown may be a necessary evil to tame inflation - so we aren’t paying £4.50 for a coffee in 2026. A recession may ultimately root out weaker, less productive companies, which in the long run will strengthen the world economy.
4. Markets are volatile and we should not underestimate the power of communication.
Confidence is hard to build and easy to lose, and we’ve seen the crisis be exacerbated by 24/7 news cycles, rumours and geopolitical disruption. For instance, this week markets in China rallied around unconfirmed rumours that policymakers were making preparations to end their stringent Covid Zero policy. The rumours were unfounded and stocks slipped as investors quickly reassessed. Equally in the UK, the Bank of England was criticised for a ‘confusing communications strategy’ in its response to high inflation, which spooked the markets and damaged confidence.
As we look at today’s historic move from the Bank, how it and the UK government communicate with global markets will no doubt be important in the coming weeks.
5. The pound might be sliding, but it’s not all down for the UK.
Andrew Bailey warned today that the UK would face a "very challenging" two-year slump as he raised interest rates. Compared to the US and Eurozone, the UK is trailing, but it’s not all doom and gloom. As a country, we still have an unbeatable presence in the services space and the City of London remains a dominant financial hub. While the markets have been rocked by political instability and U-turns, new Prime Minister Rishi Sunak has helped calm financial markets and with a new fiscal plan on November 17th, there is hope yet that stability might be restored.
By Lucy Thompson, Senior Associate at Audley
Image credit/ George Rex