Fears of recession loom as inflation spirals and confidence declines

This week has been dominated by the fears of a looming recession following the release of key GDP and confidence data. Significant news was released on Thursday when it emerged that the US economy shrank for a second consecutive quarter. This technical recession is due to a 0.9% GDP contraction for Q2 following a 1.6% decline in the first quarter. Experts are keen not to declare a recession yet as the situation is complicated due to declining GDP being accompanied by a strong jobs market and a 1% growth in personal consumption, highlighting the strength of the US consumer.

The dollar moved to a one-month high at around $1.2245 against the pound. The GDP contraction news weighed on the currency and Treasury bond yields as the market is predicting that the Fed will be forced to temper its rate rising policy. The Bank of England’s rate decision next week will be a significant indicator of whether the dollar will reverse its recent run of strength. The dollar also dropped to a six-week low against the yen at ¥134.2350.

As expected, the Fed did raise rates at its meeting on Wednesday, hiking by another 0.75%. The size of the increase was widely expected after fears earlier in the month of a 1% rise were alleviated. The central bank is now in the most aggressive tightening cycle since 1981 although the pace may slow with markets currently pricing a 76% chance of a 0.5% rise at the next meeting in September. Federal Reserve Chair, Jerome Powell, denied that the US was in a recession currently but focused on preventing inflation ‘becoming entrenched’ at his press conference.

It is not only the US experiencing a slowdown. On Tuesday the IMF slashed its growth predictions for the year as the world’s economy stutters. Downgraded estimates were released suggesting that GDP growth in 2022 will now only be 3.2%, down from 3.6% in the IMF’s April update. 2023 global growth is also expected to weaken at just 2.9% while global inflation is expected to reach 8.3% in 2022 and 5.7% in 2023. The organisation described the outlook as ‘gloomy’ and ‘extraordinarily uncertain’.

The IMF report singled out the threat of Russian gas supplies to Europe being cut, an unfortunate reality as flows on the Nord Stream 1 pipeline were reduced to 20% of normal capacity on Monday. Prices spiralled higher as fears of a complete cut-off rise ahead of the winter. A 20% rise in the prices of futures contracts for delivery next month highlighted the problems and a record €370/MWh was reached in German energy markets. Traders now expect gas prices to remain elevated for years with prices for delivery in 2023 and 2024 remaining 2-3 times high than pre-invasion prices. The euro was down 0.9% on Tuesday at $1.012 before rising to $1.0236 as of publication today.

Increases in energy pricing have in part led to political success in the US for President Biden. Fears of weakened energy supplies helped Democratic Senator Joe Manchin back a historic $369bn climate bill in a major win for the presidency ahead of November mid-term elections.

Rising gas and food prices played a major role in German inflation that hit 8.5% in July, 0.4% higher than consensus estimates. Food prices were up 14.8%, an indicator that is pushing global conglomerates such as McDonalds and Unilever to raise their prices around the world. Rising inflation in the Eurozone’s biggest economy piles on pressure for the ECB to raise rates but this is a contentious issue given the recessionary patterns being observed in the EU. The economy of Germany had already taken a hit on Monday when business confidence dropped to a two-year low as firms took an increasingly pessimistic view of energy supply and consumer demand. The spread between German and Italian bonds hit 2.52 percentage points at auctions this week despite Eurozone growth of 0.7% in the second quarter.

Aside from all the doom and gloom of this week’s economic news, England’s Lionesses football team have made it to the final of the Euro 2022 competition at Wembley on Sunday. England’s semi-final against Sweden was watched by 9.3 million, a tournament record, and Wembley is sold out for the team’s matchup against Germany.

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