Michael Addis

Market Commentary

For the week ending 15 December 2017
Report by Michael Addis
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Michael Addis

Data released this week by the Office for National Statistics revealed that UK Consumer Price Inflation unexpectedly rose to 3.1% in November, ahead of the 3.0% expected. This was the highest reading since March 2012, and being more than one percentage point above the Bank of England’s (BoE) 2% inflation target, the Governor of the Bank, Mark Carney, is required to write a letter to Chancellor Philip Hammond to explain why it is so high. The letter will be published alongside the BoE’s policy decision in February.

Airfares and computer games prices were behind the bigger than expected inflation reading. However, food prices were 4.4% higher than a year ago and electricity and gas 6.4% higher, at a time when average wages are rising at an annual rate of 2.3%. Inflation is widely expected to fall back below 3% next year, as the prior impact of Sterling’s weakness on import prices fades, and for this reason, the BoE left interest rates unchanged on Thursday. But inflation is likely to remain above the Bank’s target rate, whilst also being susceptible to supply shocks. To this end, two events over the past week highlight the potential for energy prices to rise over the months ahead.

On Tuesday, wholesale gas prices for same day delivery rose by up to 46% following an explosion at a gas pipeline hub in Austria, which stopped gas flowing from Russia, a key source of European gas. This occurred a day after the total shutdown of the Forties oil pipeline, after a hairline crack was detected. The pipeline carries around 40% of North Sea oil and gas production to Cruden Bay near Aberdeen, and is likely to remain shut for a matter of weeks. The news temporarily sent the price of Brent Crude to a two-year high.

In the US, as widely expected, the Federal Reserve (Fed) voted on Wednesday to raise short-term interest rates for the third time this year. Fed officials signalled a further three quarter-point rate increase next year, followed by further increases in 2019 and 2020. Fed Chair Janet Yellen noted, “At the moment the US economy is performing well”, adding “The global economy is doing well. We’re in a synchronised expansion. This is the first time in many years we’ve seen this”.

On Thursday, the European Central Bank kept its interest rates and asset purchase programme unchanged, but revised its growth outlook for the Eurozone higher. The Bank had already announced in October that it will reduce its monthly asset purchases from €60billion a month to €30billion from January.

As we head into 2018, the transition away from easy money is likely to gather pace and inflationary pressures are mounting, albeit from a low base. A new dawn awaits.