Supplement 04 Aug 24 - Land Ahoy!

“The First Cut is the Deepest” - Cat Stevens

Before we get started, save that date for the next Property Business Workshop - Tuesday 1st October is the one! This time round we will be covering Exits - with two main objectives. Firstly, planning your own - which people do very poorly, in my experience - and secondly, so that you can understand other people’s exit plans (or lack of them) and assist with them when looking to buy a portfolio, or a business. Help the vendor get what they want, need and deserve - and work towards true win-win situations. As always it will be an action-packed, content-filled day which will stand alone in helping to advance your understanding as a Property Business Owner!

The link is LIVE and Super Early Bird tickets, with a 20%+ discount, are available now in limited numbers: bit.ly/pbwfour?

Welcome to the Supplement, everyone. The promised ￡19bn-￡20bn hole “leaked” before last weekend turned out to be ￡22bn by Monday (that’s some loose accounting, there) - and in fairness, Rachel Reeves did a decent job of proving she didn’t “know” about it. The reality seems to be that - firstly as usual, the OBR did a terrible job of forecasting what public sector salaries would increase by, this year, in spite of the fact that in March they should have known a LOT more about the path of wage increases. That was one of the biggest problems.

The rest seems to come down to some accounting convention differences between Reeves and Hunt. Hunt gave a half-hearted defence of his position, pointing out that Reeves was now ignoring under-spends by departments which are typical and habitual, for example - he isn’t going to see his legacy trampled on - and for the record, I appreciated Jeremy Hunt as the nightwatchman that he was after a truly horrific decision by the majority of the Conservative Party Members when they elected Truss (and yes, I said it plenty before she was elected, although I had underestimated just how bad she would actually be). He will be out by November though of course when the new leader takes charge - Robert Jenrick is now the favourite, with Kemi Badenoch the 2nd favourite.?

What else do we know after Monday? Taxes “have to be looked at” - that’s convenient. Reeves is determined to live up to a suggested mantle of the “Iron chancellor” (not sure she would love that one, she’s old enough to remember who the Iron Lady was, after all, and I doubt she courts comparisons). She’s taking no chances. A risky game, really, but the speech looked like a game of chess played at the very highest level. A simple strategy really - like all great plans:

1. Blame the Tories for as long as possible. Realistically, this can land for 3-6 months I would say, and then it will start to sound like an excuse. In 2024 where people have truncated attention spans and memories, she is doing the heavy lifting early. Strong work.
2. Make things look and sound as bad as possible, whilst knowing that really she is preparing the filling for an economy that is doing far better than any of the idiot forecasters are willing to update their forecasts to. More on that later - I’m incandescent.?
3. “Find” money on the back of improved growth forecasts that will be able to ensure that Government departments DON’T need the predicted real terms cuts, but SIMULTANEOUSLY implement some tax rises (my most favoured idea is 30% tax relief on pension contributions - raising ￡3bn - they might even go to 25 or 28%, which would raise a lot more - if they limited it to 20% then it would raise perhaps ￡15bn it is speculated.

3) is very interesting. That is effectively s24 for pensions - no-one has yet made that parallel, that I’ve seen.?

IHT tinkering could raise a couple of billion without really bothering anyone in the general public, although it would upset a few supplement readers I’m sure, but it would feel very “Labour”. Council tax increases look inevitable, for larger homes - again very much Labour. I have a horrible feeling that SDLT on investment purchases COULD go up, although that’s not being mentioned - a terrible decision right now, but potentially likely. There’s a few more billion there, either way.?

My personal view is that when the OBR prepares their report before the fiscal statement for late September/Early October, then we will actually see a significant growth upgrade for the UK, even though massive, widely respected economic foundations and commentators are still pretending we are going to grow at under 1% this year. On current figures, we are ALREADY 1.3% bigger as an economy, in real terms, than at the turn of 2024 - but don’t let the obvious truth get in the way, of course! By the time we get the report - early October, I am presuming - we will have figures for the first 7 months of the year and in spite of the fact that the Bank of England had the first 5 months worth by the time they had their meeting this week, they still did their best to ignore it - but more than half the year as a known quantity will be a large upgrade and will suddenly “find” several billion in tax revenue as well.?

If the OBR ARE more positive on the UK economy - as they have been, and have been criticised for (in reality, they’ve still been too bearish, but no-one ever says that - apart from me), then it will mean higher tax taxes in the 5 years following the forecast. International organisations are busy talking the UK down whereas in reality, the next 6 months has people sweating about a Trump second term and the debt implications of that, alongside a big worry about German federal elections in 2025 and the concerns of what’s happened in European elections in general this year.?

Tax is going up - it will likely hurt us - I still feel CGT will escape this time around, because it is not a good tax to put up to actually raise any money according to HMRC’s own research, which would hurt Reeves’ war chest, not boost it. The real takeaway is that playing on this “fiscal wicket” is NOT the wisest thing to do - she should be changing the rules, especially when it comes to infrastructure spending with a positive NPV, and she should be changing them NOW. This is a massive opportunity missed - in line with the opportunity that Sunak missed to borrow to fund infrastructure spending on long-term bonds in 2021 when interest rates were basically 0%.

Enough politics again - here comes the usual sample of what’s going on in the property market, the macro world, and then a deep dive this week into the Bank of England Quarterly Report. We’ve got to go there - buckle up.?

Real-time market: The July SSTC number nudged back to ￡348/ft on sold prices to 28th July. Half a week left on the July figures. That’s still 6% up on January 2024’s SSTC number.

Listings remain very strong, 6.9% higher than the UK pre-pandemic average on the year-to-date as people continue to dispose and also the stock held off the market in 2023 continues to hit the market in 2024.

On the bright side, gross sales (without fallthroughs) are also up nearly 7% on the pre-covid numbers (6.6% up on the year) so the percentage of what is selling isn’t much different from the pre-covid market.

Net sales have dramatically increased year-on-year, 13.2% higher than 2023 by this point in the year, but fall throughs are also still rising. 26.7% this past week - just a shade above the 7y average.

The average listing price this week was also about 5% below the average for 2024 so far - cheaper stock coming to market (or - more realistically priced?) 1 in 7 properties are being reduced each month.?

So what’s changed - which we will see in real time next week to an extent, but really in the week after’s figures? Well, last week I said there was a missing ingredient if we wanted to get some pace in this market - and of course, the Bank of England gave it to us - JUST. 5 votes to 4 in favour of a cut - the right decision, in my view (being non-partisan). It was time. We could wait 6 months for another one, though - so don’t get too excited. A little fuel went onto the fire, and I will discuss what it did to gilts and swaps as well of course. We also saw headlines saying that Conservative controlled areas were getting a 6 times bigger increase in their housing targets than Labour controlled areas - but this is a typical political football, and I haven’t seen the figures the other way around - so I’d just file this under “standard” when there’s a change of Government.

I said last week that “No-one really says it - but MORE than 1.5 million new homes are needed over the next 5 years anyway just on the basis of relatively conservative migration forecasts and population growth forecasts.” However - they ARE saying it, as I saw this week - and the number needed for 2022 was 515k according to numbers from late 2023 from the CPS, and those headlines (I missed them last year) are again doing the rounds. That’s not saying we need 500k per year - as some interpreted it as - but that when net migration is 700-750k, THEN we need that sort of number. There’s still a relative pretence (in my view) that net migration is going back to levels like 300k - I’m not seeing that as particularly likely - particularly if the UK IS going to have a bit of time in the sun compared to some of our more geographic rivals in the G7. I see no answer to the asylum situation in this Labour Government (just as there was no answer in the last Government) and no appetite at this time for a draconian solution either.

It is just worth quoting this, however, from said report by the CPS: “The government’s 300,000-home-a-year national house building target for England is based on a 2016 analysis that assumed net migration would run at about 170,500 per year, with around 72,250 new migrant households formed every year.”

We normally spend time marvelling at how short of the target that we end up, every year - rather than giggling at the methodology of what is now a long-outdated immigration statistic. Of course, at that time, Cameron was still fresh off winning an election with a pledge to bring net migration down to the tens of thousands (without a meaningful plan to do so). Then there was Brexit - and then a pandemic.

On current long-term net migration ONS forecasts - which look too low, in honesty - at 315k per year - that adds another 60,000+ houses to the target. And this is the target, not addressing the deficit/shortage which gets bigger every year…….

Enough on that anyway before we get into the real macro for the week. I blame Chris Watkin for that tangent - I love his weekly real-time market analysis for which I’m grateful. Check out his YouTube if you want to watch the show - which is targeted at estate agents, primarily - he’s @christopherwatkin or there’s a link below.

https://www.youtube.com/channel/UC5Ei7gMsp3DW7pNDD5zsOUw

Macro-wise, we move on to the roundup. The Interest Rate will wait for the deep dive, although I will of course close - as always - with the gilt and swap yields. I also like the Bank of England Money and Credit Report, of course, and will take a look at that. The Nationwide House Price Index was out too. The final UK manufacturing PMI snuck out on Thursday as well, for July, and those who are regular readers and listeners will know that I love the PMIs and I will include some commentary around this.?

Firstly - the Money and Credit Report. It’s a big week but I don’t want to miss this, because there are - as usual - the headline parts which bear some reporting on, but the drill-down sections which no-one seems to get into the detail of, which we need to.

We are starting to see reports of just how horrible 2023 was for many lenders, and brokers. ￡2.7m of net mortgage debt issued in June 2024, compared to a net payback over the past 12 months rather than net lending. With this week’s rate cut, the higher rate days DO seem to be behind us - but this is June’s report, and we will have to wait until August’s report at least of course to see any discernible difference. To put it into perspective, that’s about a?

0.16% increase on the stock of outstanding mortgage debt across the UK.?

Approvals - which is what hits the headlines usually - remained stable at 60,000 for new purchases. Remortgages dipped from around 30k to 27.5k for June. Consumer credit borrowing also dipped slightly, but remained at a net 1.2 billion. There was also healthy bond issuance at a net of ￡4bn showing an appetite to grow (or buy back shares, maybe, but companies are unlikely to do so much of this in a higher interest rate environment).?

Contained within the detail - and unreported - was a move of 0.5% upwards in the Money Supply for June. This isn’t huge - of course - but is the largest move upwards for 4 months, and well ahead of consensus. We are still well below the heights hit in September 2022 - which were “fixed” by some quantitative tightening, which I have discussed extensively in the past - but I closely watch this direction of travel. Why? Because extra money in the economy “finds a home” and can be inflationary. The flow to households was large - ￡8.4 billion in June - of which ￡3.4bn went into ISAs.

The “gap” between existing mortgages and newly drawn mortgages - which I watch closely - remained largely unchanged. Things got a little more expensive in the first half of this year and June reflected that - with an average “draw rate” of 4.82%. The outstanding stock went up a bit too - to 3.65%. The difference between those two figures is that new mortgages are on average 32% more expensive than the existing stock. That gap needs to narrow before the “cheap money hangover” has passed without incident.?

Consumer credit’s growth rate is a large 8% - still - which is putting pressure on households of course. It can’t continue at that pace but some households have, of course, put the cost of living increase on the credit card.

Similar to the drawn mortgages, new time deposits (bonds) went into banks and building societies at 4.44% in June. That rate will now be somewhat “long-gone” as I write this. Existing term deposits are invested at 3.96% (note - 0.31% above the mortgage rate, but of course there is income tax to consider and many savers do not have mortgages any more as there is a massive prevalence in the over 55s - but nonetheless it is a point worth making) - and instant access deposits fell to 2.11% on average in June.

Loans to SMEs were down about 30 bps on the month, which is welcome news - still averaging 7.53%.

It’s a watching brief, but also a reminder that the slow pain of the withdrawal of the cheap money days is not yet behind us, with a relatively large gap between what households are paying out and what they are paying based on new mortgages. I also have a strong eye on the consumer credit growth, which is trending downwards and I expect to continue to do so as wages outstrip inflation in the current world.

To the Nationwide House Price Index, then. Let’s - as we are 7 reports into this highly predictable year - just recap on what Nationwide said at the turn of the year. “House prices to see low single digit decline or remain broadly flat in 2024”

How’s that going??

“House price growth edged up in July”

“Annual growth rate picked up to 2.1%, from 1.5% in June”

As well as it usually does, then. That was the headline, but on their own index this was the fastest pace of growth since December 2022. For balance, they do point out that “prices are still around 2.8% below the all-time highs recorded in the summer of 2022.”

The wisest part of Nationwide’s Chief Economist, Robert Gardner’s report is:?

“Investors expect Bank Rate to be lowered modestly in the years ahead, which, if correct, will help to bring down borrowing costs. However, the impact is likely to be fairly modest as the swap rates which underpin fixed-rate mortgage pricing already embody expectations that interest rates will decline in the years ahead.”

What Robert has missed here, though, is that a modest impact will be plenty. This is the final ingredient:

1. House prices 25% below the Nationwide’s OWN trend line for the property market in real terms
2. House prices 10% below the RPI-adjusted house price trend of the past 20 years - which is flat/zero-growth after RPI has been applied
3. Wages growing at 5.7% still, halfway through 2024
4. Inflation at 2%, with a strong prospect of returning to 3%, but not much higher - oil and geopolitics are a factor, but with Friday’s cold bath for the US stock markets, oil is back around the $75 a barrel mark
5. Supply shortages continuing with the 2023 building regs effect continuing to have an impact on new supply
6. Healthy credit availability

There may be one more - stress testing changes. At the moment it CAN be the case that the lenders can stress test at 1% above the current rate - although many are choosing to stress much higher. This is a classic case of shutting the stable door after the horse has bolted - the only way rates are going up from here at this point is a second hefty dose of inflation - not impossible, but 6% stress really should be enough for this economy. It is also relatively nonsensical on a 5+ year fix, but what the regulators should REALLY do is encourage the use of 7+ year fixes that are portable, by applying a DIFFERENT stress test to these products.?

It frustrates me so much when these simple solutions are not even talked about, mooted, or proactively approached by the regulators - frankly, this should be blindingly obvious to the Bank of England. If the government REALLY cared about first time buyers, and manageable credit, this is an easy solution to get the country borrowing - and indeed, you could somewhat “game” the yield curve to access cheaper debt when it is offering it as it has done over the past couple of years.

Once again though, instead, it will close the stable door after the horse has bolted. Compare this to the US market where many are on 15 or 30 year fixes - they have the same advantages as their large companies had when they could access huge long term fixed debt at super low rates at the beginning of 2022 when the writing was on the wall. It just comes down to not caring about the individual, in my view, but the individual households are the only solvent operators (if you include their business interests within that) in the entire UK - and certainly the only prudent borrowers compared to the Government.

Credit expansion could also take place by matching mortgage terms to probable retirement ages (70+ for anyone under 40 borrowing right now, that’s not speculation but what’s already baked into Government policy), or even looking at intergenerational mortgages - I don’t feel one way or another about that, really.?

Anyway - we close the books on Nationwide for another month. We’ve had the first dose of the lubricant needed to really get the market moving, if the wage rises and employment overall can hold up. For the latter part of that, a taster of the final July PMIs - the manufacturing numbers.

This week the news broke that the UK was outside the global top 10 manufacturers for the first time, according to Make UK. We have dropped to 12th, in 2022, with Mexico and Russia overtaking us notably. (We were 8th in 2021). What Russia was manufacturing, of course, and who funded the Mexican expansion (China) are behind some of these movements, naturally.

The final print for July on the Manufacturing PMIs told a better (and more real-time, of course) story. 52.1 indicates production growth at its highest since February 2022 (the offending year in question). However - input price inflation did rise to an 18-month high. Luckily, the Bank of England didn’t let that worry them too much! Manufacturing firms are very, very positive indeed and IF a useful Industrial Strategy comes out of this Labour Government (we are, in the UK, absolutely internationally deficient compared to many other countries around our size with a lack of a proper plan in this department) - we could well be back in the top 10 soon.

Staffing levels rose for the first time since September 2022. Confidence at a 2.5 year high. Export business trends stabilising. The Red Sea situation has impacted prices and that’s the reason for the 18-month high in inflation. The closing statement from Rob Dodson, the Director of Global Market Intelligence at S&P says a lot: “Selling prices are also rising at the quickest rate since mid-2023. Policymakers are likely to take a cautious approach to loosening monetary policy amid these signs that inflationary pressures may be pivoting away from services and towards manufacturing.

As discussed though - they didn’t. How much of a wobble is the Red Sea - and how important is a now-being-talked about Global Recession (simply because the US is having a bit of a wobble, frankly, although Germany is already doing badly, France is struggling and China are growing at just over half the rate they were before the pandemic) - prices can soon come down. The UK really is looking like quite an outlier at the moment, although undoubtedly there is and will be perceived contagion from US woes. Late on Friday markets and commentators suddenly started talking about two 0.5% cuts in base rate in 2024 from the Federal Reserve - such a statement of incompetence would be quite incredible, and inflation is 3% with core at 3.3% - but no-one seems to be worrying about that at this time……

The reality is, of course, that inflation above target is palatable as long as it is largely under control - but is it under control as much in the US, I have stated for a long time that I don’t think it is, because they still have a significant excess in their money supply compared to before the pandemic……..but instead, the markets work on a knee-jerk basis. That’s before we even start on how political the Fed are, and how involved they might want to be in influencing who gets elected yet in “Hobson’s Choice 2024 - the sequel - after the last sequel”.?

I love Google Trends in this situation. Just check out this week’s image and where and when the spike occurred, compared to the rest of 2024 in the US. The reaction was far larger in the markets, though, as we had the worst day since Mid-March 2020 in the US markets - probably more a reaction to the fact that the US market currently looks overbought on almost every metric anyone has ever used - although betting against big Tech ain’t for the faint-hearted.

Over to the gilts and swaps, then - I said last week that the wider economy looks in OK shape, not pulling up trees, but growing at 0.1% - 0.2% per month you would think - and I don’t see any need to change that - but a rate cut should help, not hinder.?

We opened the week at 3.861% on the 5-year gilt yield, and closed at 3.592%. Another down week - but a big one, of course, trimming 27 basis points - the whole drop, plus a little on top. Super. It was one way traffic downwards with a drop after what was, in the end, an expected cut - and another one on Friday when the US recession drums started to beat.?

That is a great week, and we are now nearing the lower end of my expected trading range for the year. I’ll be delighted to be wrong and close the year around the 3.25% for the 5-year, as it will make a massive, massive difference.?

The yield curve stayed at its new interesting shape, though. It is now inverted from 1-2 years - 2 year money closed at 3.621% this friday, so still a flat curve between 2 and 5 years and then it looks normal all the way out to 30 years!

I said last week that the flattening of the curve usually happens “before a recession” but it would still, using the traditional yield curve measurements, be a while out yet (>1 year). It is worth repeating my rider from last week though - the traditional methods just haven’t worked in this cycle, mostly because of the massive distortion caused by the pandemic stimulus.?

The wrinkle remains. The curve is also inverted between 3 and 4 years. 3 year money at nearly 4% still puzzles me, although I suggested last week this might just be something to do with the 5-year anniversary of cheap money and when it matures. I don’t see why a particular year represents more risk - personally - and if rates DO go on the expected path now, another 1% off by the end of 2025, this might well iron itself out when new mortgages start to be drawn at rates below the average stock, although they still won’t be being drawn at rates that are cheap compared to those who fixed in 2021.

The swaps, then, before the deep dive. Thursday's close was 3.665%, and the last swap traded at 3.709%, so a complete swing on the demand and supply front. Once again it now costs a bit more to take a swap - 0.04% at the moment - which definitely suggests more demand for mortgages - certainly in expectations if not reality. So the 5y swap only lost 15 basis points, which might be what the mortgage drops are limited to on the back of the base rate cut.?

The 2-year swap money remained at 4.205%, only discounted by 0.1% compared to last week. Miserable…...but just last week I said “12 months ago it was about 0.8% per year more expensive”. A week changes a lot - 12 months ago it was 1.3% more expensive for 2-year money than it is today. That’s a step change.?

To repeat from last week - nothing has changed on what I’m about to say. Is it worth taking a 2-year and then a 5? That’s a constant question I get asked. All I can say is - firstly, I’m not doing that, and secondly, the rate I expect in 2 years’ time is about 4.5% to 5% on a 5 year fix - compared to today’s 5.75% or so. There’s no free lunch here, folks, I’m afraid - and I could be completely wrong, it has certainly happened before.

That leads us into the deep dive - because it’s all about the rates, ‘bout the rates, no treble (sorry).?

Many won’t have looked too far below the surface here - simply because of the respite. Breathing space. At least a million landlords on SVR breathed a sigh of relief, I have no doubt. However - it is currently 0.25%, and only manifesting as 0.15% in the swap market. The champagne is very much still on ice.

It does very much look like the bond markets think the rate is still too high. The Bank cares less about them than other central banks do - but it did take a swipe in the face from them around October 2022 after that fateful “mini-budget”, which is an oxymoron if ever I’ve heard one.

The Bank opens this report with 3 choice phrases - always. Firstly, a pat on the back for themselves - they don’t mind if they do. “Higher rates have helped return inflation to target but it is likely to rise temporarily”. This is good, solid, forward guidance and the writing is on the wall with core inflation where it is, and a likely price hike in October of 10% for household energy prices.?

Inflation progress means rates can come down as of today (Thursday 1st August). However - the third shout. “We need to make sure inflation stays low - we will not cut rates too much or too quickly”. That’s a biggie. That’s definitely the current plan - and it looks like the timing might be quite good here, when you compare it to the Federal Reserve who look all at sea and truly incompetent, right now. I believe that last comment would have fit squarely in Mark Carney’s definition of “Forward Guidance”.?

Their next level down takes things in turn, scraping one level deeper: they credit Ukraine and Covid as having less impact and therefore inflation falling, alongside higher interest rates - which is fair. They point out the decision was finely balanced - which it was, 5-4. As predicted Lombardelli’s first meeting was a down vote - as predicted ever since she was given the job as Deputy Governor for Monetary Policy, and also as predicted, she dragged Andrew Bailey, the Governor, with her. It still could have been tight if the third Deputy Governor - a quieter character, but certainly not a confirmed Hawk - had not crossed the floor with them - but she did, and so the vote went 5-4 in favour of a cut.?

Of the 4 who voted to hold, 2 absolutely could not be moved. I’d be a lot more comfortable if the third - Megan Greene - HAD been moved, but I did suggest it was unlikely. That left Huw Pill who - the day of the meeting - had his term as the chief economist of the Bank extended for another 3 years. He’d indicated a few weeks ago that he wouldn’t be voting downwards - and indeed he didn’t. He also commented on Friday:

“Not promising more rate cuts in the immediate future” (September is a hold)

“Not out of the woods but making progress”

“Some dynamics in the UK economy that we need to be cautious about”

“No big impact from public sector pay rises” (If you missed that news item, the recommendations - which were accepted - meant a ￡9.6bn budget hole which was blamed on the Conservatives but should ABSOLUTELY be blamed on the OBR).?

Back to the report. The Bank now expects inflation to go back up to around 2.75% this year, but this to be temporary and inflation to come down again next year. More importantly the Bank now sees inflation BELOW 2% in 2 years time and further below it in 3 years time - and that’s all predicated on the market path of interest rates which was - when this report was prepared - down to about 3.5% over the coming 3 years.

There was a rare mention of insurance and rents for housing - singled out as “rising at rates well above their past averages”. A better characterisation would be “late starters, now catching up with and surpassing recent inflation”.?

As so often, when we get into the meat of the report, the language fits the decision that has been made. For example - weekly earnings growth “falling to 5.6%” and services CPI “declining to 5.7%”. Both true - but the reality is, the fall has been really quite slow, and dragged out, on both fronts - and neither are falling as quickly as the committee wanted. They are both appearing very “sticky” as consumers AND firms try to catch up with what they’ve lost thanks to inflation, in real terms.?

They note that GDP has picked up “quite sharply” without noting their own poor forecasting performance on this front for 2024, alongside a number of the other forecasters. The next bit is really interesting.

The committee expects slack in the economy (this should already be there - consumption is down MASSIVELY - but it isn’t appearing). They also think the labour market will ease further - but I disagree from following the PMIs closely. There is no sign of this, at this time. Steady growth in employment would be more accurate.?

They do still see that inflation effects could be “more enduring”. This is “humble pie” from the “transitory” days of 2021/22 which people like Andy Haldane, the chief economist at the time, never really believed (and said so very clearly). Hell of a transitory spell, this - 3 years at or above target, and counting. Core is still at 3.5%. Core CPIH at 4.2%.??

The Bank has, very quietly and very modestly, tweaked the forecast of “normal” GDP growth back to 1.75%. I think they are a bit slow here, and quietly hoping that 2% is back on the cards - and indeed, over recent weeks I’ve become much more bullish that this might be the case. How? Why? Well, basically by avoiding banana skins. No energy crisis caused by a war. No pandemic. No Brexit. None of these really rely on too much political skill (Brexit aside - but remember it was the will of the people. Supposedly).?

So I think we can do a little more - which would be great. I think we will beat 2% this year, while they are much more bearish. The slack the Bank is expecting in the economy is caused by rates being high now and reflecting in the economy in 12 months time - but I’m not convinced. If swap rates drop accordingly, after just one more cut, the pain to firms and households dropping off fixed rates will have got markedly lower - we are already 1.4% below the 5-year gilt rate high (and more than that below the 5-year swap rate high) from the middle of 2023. There’s an argument that stress test rates on mortgage affordability can be down to 5% (although they are unlikely to drop below 5.5%, as they did briefly in 2021 before they were removed) - plenty of banks will be staying higher than that, though - it would take a few enterprising ones to lead the way and really make the price war “work” for them.?

This key judgement - that this tightness will bear on economic growth in 2025 - is by no means guaranteed. There is no more debt rolling off in 2025 - and limited difference in rates in 2019 and 2020. 2026 is more likely to cause an issue because the 2021 money was so cheap - but at this rate, gilts in 2026 could be back to around 3%, making that pain about the same (relatively) as it is in 2024 - although firms and households will be carrying the debt at an overall higher interest rate level, inflation will also have taken a pretty fat chunk out of nominal debt by then (and house prices could be up 10% from here, quite easily - which would help).?

The absolute final key - which I highlighted some time back - was the prediction of inflation in 3 years’ time thanks to the model. When Dave Ramsden saw the 1.6% prediction back in May, that was enough for him to vote for a cut. Now it is 1.7% in 2 years, and 1.5% in 3 years. Had it been 1.4% - that would likely have got others to vote for a cut, or get a lot closer. 1.5% is the bottom of the acceptable range in 3 years’ time for the inflation target - and thus, if you aren’t a monetary policy specialist - you’d expect to vote to cut. Just.?

The counter to that argument is the same phrase that gets wheeled out time and again. And I’ve used it myself - so I can’t complain. “The risks remain to the upside”. I said this again and again when talking about interest rates in early 2022. All the risk was that they would go up and up - which is why I broke and fixed so much debt.?

Those inflation numbers are the “modal” projection - i.e. the most likely number. The mean - i.e. the average - is 2.0% in 2 years and 1.8% in 3 years. Not low enough for some - but below target, and leaving room for a cut - and I must emphasise, these paths on which the model works are the market implied interest rates, which is 4.2% or so in 12 months time (3 more cuts), and 3.8% in 24 months time - and 3.5% in 3 years. You have to get there somehow - and there’s no guarantee those will be the rates, of course, but they have eased in 12 months time compared to the last forecast 3 months ago (by about one more cut).?

So - to summarise - the Bank thinks we don’t have the capacity to go back to 2% growth, but I don’t agree - and they also believe the survey results are not bearing out the surprisingly strong growth. On the latter they might be right, but this is at the margin - and from the 0.5% growth they were expecting for the whole of 2024, we have managed more than that in Q1 and almost certainly in Q2 as discussed.?

Overall, the Bank has also upgraded its view on savings (to hit 12% this quarter and fall back), housing investment, and also business investment. They spend a long time explaining why their more recent forecasts might well have been wrong (and indeed have been wrong), and they acknowledge, effectively, that it is perfectly possible that the rise in rates has not made the difference they would have expected. This makes sense - as I’ve been saying for years now, I managed to work it out - so did pretty much every CFO of any listed company worth their salt. They loaded up with their last tranche of cheap debt on an average term of 17 years in 2022, remember. By 2039 inflation will have kicked the stuffing out of those bonds.?

The households - who, as a rule, didn’t see it coming - were simply better protected by significant regulation in the wake of 2008, and Covid stimulus reaching them one way or another to provide a cushion - alongside “forced savings” in 2020 and 2021 when lockdowns prevented spending to an extent (and scared them into saving as well).?

The path of inflation the Bank now expects:

2.3% average this quarter

2.7% average Q4

2.7% Q1 2025

2.6% Q2 2025

2.4% Q3 2025

2.2% Q4 2025

2% Q1 2026

1.7% Q2 2026

1.7% Q3 2026

1.6% Q4 2026

1.5% Q1 2027

1.5% Q2 2027

1.5% Q3 2027

Looking at those - it’s all very neat, and trends down nicely - and could be right, but I can’t see it. I think 3% will be closer to the average around the end of this year, and the path downwards could be a little slower than has been allowed for there. If wages are still moving up by c. 5% by the end of the year - and that would be no surprise - services inflation will be similar, rents will still be moving upwards by 5% or so in my view - and so below 3% would be a real surprise, unless things like food and fuel are actually falling in price (not impossible, especially if the US DOES have a recession).?

The GDP forecast - as already mentioned - is next up, and still looks too low. There would have to be contraction from here - with no sign of that in the major business confidence indices, or consumption surveys. The expectation is then 1% growth for 2025 as higher rates continue to weigh on activity - but I’m not so sure. The equilibrium rate - WITH the extra Covid stimulus inflation - COULD be 4% at the moment - and that’s the rate at which it wouldn’t weigh on the economy. There’s still GDP benefits from more controlled inflation with nominal prices still rising - that have not worked themselves through the system just yet. Remember savers are getting more money on average than banks are getting on fixed loans (as per earlier) - that effect is putting more money into the economy and I’m confident it has made it into no models at all. We aren’t talking small money here either - ￡1.65tn in mortgages and trillions in savings (although much locked up in pensions). Household consumption predictions also look like they could be wildly off - my stronger growth projections would depend on households returning to older consumption patterns once rates are on the way down, confidence is up, and the gap between new debt and existing debt has stabilised.?

The next part - which will be the last, you will be pleased to hear - is just to note the Bank’s review on the process of Quantitative Tightening. I’ve got on my soapbox about this before - in some detail - in previous weeks. This time round I just want to reiterate - the methodology makes no sense, and needs to stop instead of costing the taxpayer many tens of billions.

This would also be a MASSIVE benefit to Rachel Reeves and therefore to all of us.?

The next meeting (in September) the Bank gets to vote on this for the next 12 months.?

My secondary argument is that actively SELLING government bonds into markets that would otherwise not be sold, and instead “retired”, has kept the gilt yields up. Once again the Bank says (whilst marking their own homework) that the effect has been “modest”. The evidence is less than compelling. Nevertheless - let’s accept their figures. A cost of 10-15 basis points - perhaps 150 million or so on the cost of debt issued since it started. Then, 0.2% negative on activity and 0.1% on inflation. The latter helps, but the former does not. A probable cost of around ￡1.8 billion. Per year, in perpetuity, as I see it. So a couple of billion quid a year. THEN - the ACTUAL cost of disposing of the bonds, which is in the tens of billions of losses realised.?

There’s just no justification for this in the bigger picture of the economy - simply to ensure the Bank could do MORE QE MORE quickly if it needed to. QE hasn’t been a success. No-one really claims that it has been. It was work of last resort, and there is currently a LONG way (5 percent, to be precise) before getting to another last resort situation, of interest rate cuts.?

We shouldn’t be rushing to prepare for another 75-year debt bubble/crisis or another 100-year pandemic event with such vigour. War - different matter, but is there any real prospect of a true “hot war” WITHIN the UK at this time? If there were, other funding alternatives would very likely come available anyway.

The reality is that the Bank of England has dropped the ball here, and refuses to admit it. I am very displeased with this - I would prefer a more open-sounding approach to voting for no more ACTIVE QT - that is, selling bonds off - next month. That would be MAJOR progress and a big help for the October budget. I’m not, of course, the only one that knows this - Rachel Reeves will do, as will the Treasury support this position. Once again I remind you that the recent Treasury Consultant - Claire Lombardelli - is now the Deputy Governor in charge of monetary policy. She is our greatest hope - bring some sense to this vote next month, Claire, and just let the existing bonds expire. Of the 2000+ words that are written about the QT situation in the report, nothing at all is mentioned about the cost to the Treasury or the taxpayer.

The defence here, of course, is that this is “out of scope”. Typical public sector attitude. I personally couldn’t “restrict my remit” so much when there’s tens of billions of public money at risk. I am stunned that anyone can - to be honest.

Enough. As my final postscript, I am going to just note the “other forecasters’ expectations” that make it into the report. The Bank is:

Above average compared to forecasters on GDP growth

Above average on unemployment (they always are)

And WELL below average on inflation expectations in 2026 and 2027. In 2027 they are way, way below anyone else’s lowest prediction.

The last one is the most important, of course. What the Bank SAYS, is what matters. I personally feel that around 2% is a fair estimate for 2 years from here, but assuming 1.5% suggests that the economy is indeed going to falter “a fair amount” from here. It’s hard to see with this level of confidence, and I am struggling to see the “ratchet” - especially if rates did come down in November (or even if we wait until February). I’m definitely in the camp that the CURRENT equilibrium rate is circa 4%, but decaying at 0.25 - 0.5% per year until we reach an “organic” 2% inflation - which is still a couple of years away at best guess.?

As always - any unseen changes, and all this changes again, of course. But they’d have to be pretty major.

Well done as always for getting to the end - I hope you enjoyed this week - Thanks for your attention as always, and I hope it was of use! Don’t forget you can now BOOK your Super Early Bird tickets for the fourth Property Business Workshop of the year at https://bit.ly/pbwfour on Tuesday 1st October!!

There’s only one way to deal with all of this continual noise and the unfolding chapters of the “new dawn” - Keep Calm, ALWAYS read or listen to the Supplement, and Carry On!