According to the German statistics office, a recession was avoided, but inflation continued to rise and reached 11.6%. Inflation in the UK has topped 10%, which increases the chances of a higher interest rate from the Bank of England.
EUR/GBP: Recession delayed but not reversed
Germany nevertheless avoided a recession in the third quarter due to growth, which was quite unexpected for experts. But the economy remained unstable due to soaring inflation caused by a painful energy standoff with Russia. Despite a warm autumn and an unprecedented filling of gas storage facilities, Europe is still under price pressure.
Thus, consumer prices for the German population, harmonized in comparison with other EU countries, in October rose by 11.6% compared to the same period last year, while the forecast fluctuated around the mark of 10.9%. In other words, the inflation growth rates set for the previous month have remained.
Of course, the fall in energy imports from Russia after the start of the conflict in Ukraine led to the rapid rise in energy prices in Germany. This pushed the inflation rate to its highest level in more than 25 years and also added to concerns about a potential gas shortage this winter. This happened despite full storage facilities and a decline in production volumes, which will also lead to a drop in energy consumption, and therefore save more gas.
The shock growth in the third quarter was attributed to the lifting of restrictions to mitigate the effects of the COVID-19 pandemic and relief measures introduced in the summer.
Nevertheless, the gross domestic product showed an unexpected growth of 0.3% in the third quarter compared to the previous quarter.
The positive news took economists by surprise. After many warnings of a looming recession in Europe's largest economy, they had forecast a contraction of 0.2%, according to a poll of analysts. But it looks like the producers did better than expected.
The economic result in the third quarter was driven mainly by private consumer spending, but the statistics office did not specify what those costs were and in which segment.
As a result, in the previous quarter, German GDP grew by 0.1% compared to the previous quarter. On an annualized basis, GDP grew by 1.2% in the third quarter (seasonally adjusted), which also beat analysts' forecast of growth of 0.8%.
Despite the positive news, the IFO warned on Friday that the full effect of inflation has yet to reach consumers, even as its survey showed slightly fewer companies in Germany planning to raise prices in October. So we can assume that the data for the third quarter only delayed the onset of a recession in Germany and the eurozone as a whole.
The institute also predicted that the German economy would contract by 0.6% in the fourth quarter.
In its latest forecast, the government predicted growth of 1.4% this year and a decline of 0.4% next year.
An economy ministry spokesman said on Friday it was too early to assess the impact of the latest GDP data, confirming the conclusion that the recession is being delayed.
For example, Jens-Oliver Niklasch of LBBW Bank argues that a recession is likely to break out in the winter, but it may not be as severe as initially feared. Well, this is a possible option. Although the fall of all world indices by impressive volumes, while the global recession is still ahead, it makes one wonder what this fall will be at the peak of the event.
At the same time, the BoE is also preparing for a recession. True, in a very non-standard way - going to increase the cost of borrowing next week to the highest level since 1989.
Inflation in the country reached 10%. And experts are already predicting the worsening of the expected recession, which is due to the active and total cuts in spending under the new Prime Minister Rishi Sunak.
In addition to raising interest rates on Thursday - this will be the eighth consecutive meeting of rate hikes - this time by three-quarters of a percentage point, according to most analysts - the BoE should also become the first major central bank in the world to open the sale of bonds from its stimulus reserve.
After a period of hyper-volatility in Britain caused by former Prime Minister Liz Truss' economic plans that triggered a panic in the bond market, such a double tightening of the BoE's monetary policy could be at odds with its current forecasts that the economy will contract until 2024.
But with inflation still well above the BoE's 2% target in 2023, and with some of the costly bailout from the already former prime minister Liz Truss for households and businesses still in place, the only way seems to be to cover borrowing costs.
Recall that only on August 4 did the BoE raise rates by half a percentage point, which was the largest increase in 27 years, and did it again in September. Obviously, the central bank will continue to put pressure on the markets in order to reduce prices.
Investor worries about inflation and further rate hikes did ease when new Treasury Secretary Jeremy Hunt canceled nearly all planned Truss tax cuts and cut his revenue-boosting energy curb program from two summers to six months. This gives hope that this time the central bank is able to limit itself to adding half a percent to the base rate.
However, the continued spread of inflation in the British economy this year means that the BoE remains on high alert. Many economic indicators have worsened since the committee last met in September. In addition, the labor market remained tight, and wage growth was very frightening. So you can not even count on a softer rate hike curve.
So far, investors are counting on a 75 basis point increase in the bank rate to 3%. But there are also voices in favor of a larger increase - up to 3.25%. On Friday, ING analysts are forecasting a 50 basis point smaller gain, which seems like the most likely outcome.
The longer term is overshadowed by the delay in new Prime Minister Rishi Sunak and his finance minister's plans to rebuild public finances.
They have already warned the public about their tough decisions. For example, £50bn of tax hikes and spending cuts are being considered, more than estimates of a hole in the budget, but Sunak seems determined to take the plunge.
Minister Hunt was due to announce the plan on October 31, but it was delayed until November 17 after Sunak became prime minister. Obviously it's being improved. Besides, Sunak probably didn't want to ruin the stock market reporting period.
Interestingly, interest rate futures show much less inflation anxiety among investors than just a few weeks ago. The bank rate is now expected to peak at around 4.75% in 2023, compared to more than 6% before the sudden end to the "Trussonomics". This development of events, despite Sunak's obvious warning that he will not be a swan, makes one think.
Now we must also take into account that the cost of borrowing that the new government will carry out will also hit the economy.
On the other hand, the BoE's plan to start selling some of the bonds it has bought since 2009 to support the economy will partly ease some of the upward pressure on rates. By comparison, planned sales of £40bn next year are equivalent to about 25 basis points of rate hikes. But this plan is also not ideal, as the sale of bonds risks triggering new turmoil in the stock market.
It is still quite difficult to sum up all these components, especially according to the yet unpublished budget plan. However, the fact that both the ECB and the BoE will act tough is already obvious. This means that the recession is still ahead, and you should not hope for a reversal of the bearish trend.
