Ear to the Ground

November 18 2022

This week saw the release of the UK budget. Some are terming it as being a ‘rescue’ budget and this is understandable given the forecasts made by the Office for Budget Responsibility (OBR). They forecast that the economy will contract by 1.4% in 2023, before expanding by 1.3% in 2024, 2.6% and 2.7% in the following two years. They believe that the UK is now already in recession as double-digit inflation puts pressure on both households and businesses.

To try and fill the hole in public finances there has been something of a tax grab set out by the Chancellor. A five-year freeze has been put on personal tax allowances, including income tax, national insurance and inheritance tax, along with a cut in the capital gains tax allowance. There was also a lowering in the threshold for the payment of the additional rate of 45% income tax. Moves such as these, along with other announcements, meaning that at the ‘all households’ level there will be a net decline in household income. The impact across income deciles, however, as forecast by HM Treasury, varies, with those with a higher net income losing out whilst lower decile households could potentially be better off.

The market took the Budget well. Equity indices were relatively flat on the day. Sterling continue to strengthen across the board, standing above 1.19 against the US dollar. It wasn’t that long ago that we were within touching distance of parity. The UK’s ten-year gilt meanwhile continued to see its yield fall. Having been north of 5% following the Truss/Kwarteng budget it is now a little over 3%.

Whilst economic growth is a concern for the Bank of England, for now, their focus needs to remain on tackling inflation, especially after the latest release. Here we saw that CPI to the end of October rose 11.1% year on year, compared to a consensus forecast of 10.7%. This was the highest rate since October 1981. The primary upward pressure came from housing and household services, in particular gas and electricity. Food prices also continued their march higher. The higher level of inflation is having an impact on consumer spending habits. Retail sales excluding food and energy, year on year to October fell 6.7%. Whilst this was better than the consensus forecast it marks a deterioration all the same.

In the US meanwhile, the release of the latest Empire Manufacturing Survey (6 months ahead) for General Business Conditions painted a somewhat gloomy outlook, turning negative and hitting the lowest level over the last 6 years, even lower than that seen at the height of COVID negativity. It was an equally grim reading for New Orders, which hit the lowest level seen since 2008/9. Shipments also continued their march into negative territory.

So a tough and gloomy week from an economic perspective. The key question, however, is how much of this is already priced into markets. To know that we need to know how shallow, or deep, this recession could be.