It was one of those heavy weeks for economics releases. Inflation, retail sales, government borrowing plus the eagerly awaited second estimate of GDP. Add in ONS house price information and a heady cocktail of excited headlines was to be expected from the financial pages.
Inflation data as expected …
It began quietly enough with the inflation data. No surprises, CPI inflation edged up to 1.8% in April from 1.6% in the prior month. The large rise in service sector inflation to 2.8% from 2.3% was offset by a small decline in goods inflation, falling to 0.9% from 1.0%.
The uptick was marginally reflected in producer prices, increasing to 0.6% from 0.5%. The more volatile input costs, fell at a slower rate -5.5%, from -6.3% prior month.
Energy and oil prices, were again significant in the reduced input costs. Imported metals, chemicals, parts and equipment fell significantly assisted by the 10% appreciation of sterling against the dollar.
For the year as a whole, we think inflation will hover close to the target for the best part of the year. The risk remains to the upside in the final quarter. A rise in international prices, and domestic demand, boosted by compression in the labour market is likely to push prices higher. No risk of deflation on the UK horizon, a real risk to the upside is developing.
House Prices ..
UK house prices increased, according to the ONS data, by 8% in the twelve months to March. “The house market may derail the recovery", the headline. “Carney believes that house prices are the biggest risk to the economy” the great caution.
No matter, that house prices increased by over 9% in the prior month or that house prices outside London are increasing by just 4% on average. In the North West prices increased by just over 3%, in Scotland prices hardly increased at all.
In London, house prices increased by 17%. Foreign cash buyers at the top end of the market may be confusing the overall trend. However, significant volume and price escalation in the mid tier market is also impacting on price averages.
Governor Carney has made it clear interest rates will not rise to combat rising house prices. The remit to action lies with the Financial Policy Committee.
Already, action has already been taken to modify the Funding for Lending Scheme away from mortgage lending. Discussions between the Bank and Treasury will continue to consider modifications to the “Help to Buy Scheme”. Implementation of the Mortgage Market Review will also curb lending into 2014.
There is a structural problem in the housing market. Mark Carney, Governor of Threadneedle Street, points out that Canada has half the population of the UK but builds twice as many houses. No wonder there is a supply issue. But is the Bank of England prepared to help out? Not really. The Little Old Lady will not turn a sod, grab a hod nor build a single house this year. “We are not in the business of building houses” the Governor’s mantra.
The Bank of England will not build a single house in this cycle but neither will it allow the housing market to derail the recovery, provoking a premature move in base rates.
Retail Sales …
Retail sales figures, on the other hand, suggest rates may have to rise much sooner than expected. Retail sales volumes increased by 6.8% in April compared to prior year. It was May 2004 when retail sales volumes increased at a similar rate. Base rates were 4.75% at the time rising to over 5% within eighteen months.
Retail sales values increased by just over 6%. Online sales increased by 13%, accounting for 11% of total action. Consumer confidence is back to the pre recession levels, car sales are up by 8% this year and retail sales are soaring.
From a UK perspective, rates should be on the move by the Autumn of this year. The MPC will be reluctant to move ahead of the Fed and the ECB. The international context suggests the rate rise may be delayed until the second quarter of 2015.
Thereafter, for those who would argue the forward horizon has 2.5% cap, the retail sales figures and base rate history should provide a warning of surprises to come.
GDP Second Estimate …
No surprises in the second estimate of GDP release for Q1. No revisions. The UK economy grew by 3.1% boosted by an 8% surge in investment activity. Manufacturing and Construction increased by over 3% and 5% respectively. The economy is rebalancing … well a little bit!
Our May Quarterly Economics Update on behalf of GM Chamber of Commerce is released next week. The outlook for the year remains broadly unchanged. We expect the UK economy to grow by around 3% this year and 2.8% in the following year. The surge in retail activity has been a surprise, as is the continued strength in employment.
The outlook remains much the same. Growth up, inflation rising slightly, employment increasing and borrowing, despite the blip in April, set to fall. Just the trade figures will continue to disappoint as we have long pointed out.
So what happened to sterling?
The pound closed broadly unchanged against the dollar at $1.682 from $1.683 and up against the Euro at 1.234 (1.227). The dollar closed at 1.363 from 1.370 against the euro and at 101.97 (101.54) against the Yen.
Oil Price Brent Crude closed up at $110.52 from $109.91. The average price in May last year was $102.3.
Markets, the Dow closed up at 16,593 from 16,447 but the FTSE adjusted to 6,815 from 6,855. The markets are set to move, the push before the summer rush perhaps.
UK Ten year gilt yields closed at 2.63 (2.56 and US Treasury yields closed at 2.52 from 2.51. Gold was unchanged at $1,293 from $1,293.
That’s all for this week. Join the mailing list for The Saturday Economist or forward to a friend.
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The material is based upon information which we consider to be reliable but we do not represent that it is accurate or complete and it should not be relied upon as such. We accept no liability for errors, or omissions of opinion or fact. In particular, no reliance should be placed on the comments on trends in financial markets. The presentation should not be construed as the giving of investment advice.