On the one hand, the Bank of England just hike rates by 50bps, reupped its warning of a recession, and warned that it will have to be much tighter for a long time to come. On the other, in an apparent complete failure in communication, the Truss government and its motley crew of cartoonish officials just cut taxes by the most in almost 50 years, a tax cut which will be funded with more debt. No wonder cable is plunging, gilts are imploding and global markets are cratering on fears that the “UK model” will soon be adopted by the rest of the world (just as Albert Edwards accurately predicted just yesterday).
So what is to be done to avoid a complete disaster? Well, according to DB FX guru George Saravelos, it’s time for central banks to panic, and to put ridiculous governments in their place. Specifically, the strategist writes in a note (available to pro subs) that “a large, inter-meeting rate hike from the Bank of England as soon as next week to regain credibility with the market.”
More from the note:
Both the pound and gilts have experienced historical drops today.
We are surprised to read some market commentary in recent hours suggesting that the appropriate monetary policy response to this extreme market volatility is for the Bank of England to reverse its planned sale of gilts.
In our view, such a policy response would make things worse. The market is giving very strong signals that it is no longer willing to fund the UK’s external deficit position at the current configuration of UK real yields and exchange rate.
He is right, of course, but the question is what happens when the market signals the same thing for the US? Actually we know what will happen: QE is back, baby. But we digress: here is Saravelos again:
A monetary policy response to prevent bonds from selling off would not only prevent the necessary rise in real yield to attract foreign buyers, but it would lead the central bank dangerously close to a path of fiscal dominance: a situation where decisions by the fiscal authority (large fiscal spending) and their consequences (higher yields), dominate over the central bank’s primary inflation objective.
In the view of this author, the policy response required to what is going on is clear: a large, inter-meeting rate hike from the Bank of England as soon as next week to regain credibility with the market. And, a strong signal that it willing to do “whatever it takes” to bring inflation down quickly and real yield in to positive territory.
Saravelos has a point, of course, but the bigger issue is that by this time next week the global market crash will be so profound, and so widespread, with tens of trillions in value vaporized, that central banks may have no choice but to do the opposite and resume QE because a few more days of soaring USD and yields and only idiots will be worried about inflation in the coming global depression.
Full note available to pro subs.