A jobless guide to interest rates

By Mike Peacock
October 16, 2013

The Bank of England’s decision to peg any move in interest rates to the downward progress of unemployment has invested the monthly figures, due today, with huge importance.

In a nutshell, markets don’t believe the jobless rate will take the best part of three years to fall from 7.7 percent to below 7.0, the point at which the Bank said it could consider raising rates from a record low 0.5 percent. For what it’s worth, the consensus forecast is for the rate to be unbudged at 7.7 in August.

There are some reasons to think the Bank might be right – an ageing population working longer, slack within companies (such as part-time working) which can be ramped back up again before any new hiring takes place – but if markets continue to price in a rate rise early than the Bank expects, then it has de facto policy tightening to deal with.

Funny thing confidence. No one could buy a jot of it for three years yet in a month offering the threat of a U.S. default – with Fitch having now put Washington’s credit rating on negative watch — and in which the Italian government almost collapsed, German investor sentiment shot up again.

Auto industry association ACEA is just out saying an extra working day and a surge in UK sales boosted Europe’s new car market in September, providing fresh evidence that demand is slowly bottoming out.

There appears to be some clarity emerging about the next German government – it will either be a grand coalition of Angela Merkel’s CDU and the centre-left SPD or fresh elections after the Greens last night ruled out further coalition talks with the chancellor.

The SPD is scarred by its experience of coalition in the last decade, when its support slumped, but it’s probably the lesser of two evils for the party since a new vote would be quite likely to increase Merkel’s support. She only just missed out on an overall majority first time around.

One of Merkel’s lieutenants said the SPD would be asked today to enter further exploratory talks. However, with an entire policy slate to negotiate, a deal won’t be done for many weeks yet, leaving euro zone reform policies, particularly the crucial formation of a banking union, adrift with the timetable tightening.

If the ECB’s health check of banks reveal problems next year and a banks’ shareholders, creditors and large depositors can’t fill the gap, national government help may be required and if that is insufficient, what then?  An answer to that question is needed fairly urgently.

A deal is supposed to be signed off by an EU leaders summit in December but if that slips, the harder deadline that the European Parliament must vote through any deal before it faces elections in the Spring hoves into view. The expectation is that disaffected European voters could elect the most eurosceptic parliament yet seen which may not be keen on further integration.

Italy finally presented its 2014 budget last night offering a mix of tax and spending cuts with the aim of cutting the budget deficit to 2.5 percent of GDP next year. The tax reductions, aimed at boosting stagnant business investment and consumption, will be split between 5 billion euros for workers and 5.6 billion euros for companies.

That will help an economy which is forecast to return to growth, albeit anaemic, next year. But it’s unlikely to be a game changer. Prime Minister Enrico Letta may struggle to enforce the spending cuts but structural economic reforms to raise growth potential will be even tougher … and are even more vital.

Portugal also ducked inside the deadline to present budget plans to the European Commission, promising heavy spending cuts to hit public sector wages and pensions in 2014 as it strives to exit its bailout. It too hopes to grow next year but its deficit will overshoot its 2013 target. Lisbon is still quite likely to need further international assistance and is further hobbled by a constitutional court that has already thrown out various austerity measures and may do so again.

The European Commission releases its annual report on how Turkey is shaping up in terms of joining the EU, which may be somewhat academic given cooling interest from Ankara and the fact that some EU states are reluctant to open the door to a large, mainly Muslim country. But it’s an interesting guide to the state of play regardless.

The EU’s focus is much more on potential new members in the Balkans but Turkey will be a big player in or out of the EU.
Talking of which, a European success story. Bosnia, population <4 million and with a shattering recent history, qualified for the World Cup finals for the first time last night. As things stand, getting into the EU looks rather trickier.

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