ECB raises its main overnight lending rate to 1.25% from 0.5% on Thursday. It has a long way to go … [+]
European stocks may have closed higher, but that is only because investors see the continent getting more serious about fighting inflation — now around 9% in the EU.
No one likes high inflation. But the flip side of fighting it is that higher capital costs will impact the big investors and hedge funds trading on margin as capital costs rise. They’ll invest less. Consumer credit going up will dampen consumers’ appetites. All of this as the EU faces a food and fuels crisis, much of it due to its own policy missteps.
The European Central Bank announced a 75 basis point interest rate hike to battle inflation today. That puts the main financing rate at 1.25%. The Stoxx 600 index closed 0.5% higher, but by mid-afternoon in New York, the FTSE Europe
If any bulls are left out there, the ECB just told them it has to slow the economy further, even though it is already slowing. Look for oil to fall to the $60s at the rate Europe is going (which is a good thing for Europe, given the fuel fiasco they’ve created). Natural gas prices are falling, as predicted here.
“We’re in a new macro regime,” says BlackRock Investment Institute investment strategists, led by Jean Boivin, in a note published September 6. “Central bankers at the recent Jackson Hole forum started to recognize this reality. They’re not prioritizing economic implications over pressure to curb inflation. It seems they do not intend to manage the sharp trade-off between inflation and growth. That’s a big deal,” BlackRock analysts say, adding that getting inflation back to central bank targets means “crushing demand with a recession.”
That’s bad news for risk assets and leveraged investors. An economy in recession should take a bite out of oil and gas prices. That will give some relief to cash-strapped Europeans paying high prices for electricity. Alas, this relief might come with them losing their jobs.
No one pays more for natural gas than the Europeans. Energy prices must collapse to help the ECB fight wage- and investment-killing inflation.
Europe’s Problems Likely to Worsen
Investors will worry that rising interest rates will add to the stress felt by consumers and businesses facing outrageous energy bills. Many of them are carrying substantial amounts of debt.
The Purchasing Managers Index (PMI) from S&P Global, viewed as an indicator of the economy’s health, dropped to an 18-month low of 48.9 in August from July’s 49.9, which was lower than a preliminary estimate of 49.2 for the month. Anything under 50 is a contracting economy.
Germany saw spending on services fall for a second consecutive month in August. Rising prices and declining confidence dampened domestic demand, contributing to the recent fall in fuel prices. Also, governments are putting caps on electric power rates. Futures speculators are leaving the market, cashing in their chips. This will help, if the market keeps selling.
France’s purchasing managers are predicting a bleak fall-early winter. Companies are worried that inflation and higher electricity bills will cut their revenues and reduce demand.
The service sector in Italy saw its growth slow to its lowest level since January.
“Things will only get worse for the Eurozone and the Euro in the near and medium term,” says Naeem Aslam, chief market strategist at AvaTrade in London. He thinks the euro will fall to $0.95 or below. It is currently trading at one euro to the dollar.
“Everyone is exceptionally sentimental now,” says Aslam about life in the U.K. This was hours before Queen Elizabeth died, which will likely add to a sadness blanketing the island. Their problems are similar to what European countries are dealing with now — mainly the high cost of food and fuel. “People are watching their money fly out of their wallets due to the higher cost of living. People here and in Europe aren’t used to watching their spending and worrying about paying their bills.”
Will the U.S. Follow Europe?
Other than the energy crisis in California, a perennial problem there, no one else seems to be having a European-style crisis in the lower 48 states. But consumer sentiment is weakening.
Just under half (48%) of Americans say they are confident in their ability to weather a recession, according to a survey from Experian.
From the Experian survey:
- 55% of U.S. adults say they are very or extremely concerned about the state of the economy.
- 73% are concerned that rising prices (gas, groceries, rent, etc.) will continue to increase to a level they can’t afford.
- Over a third say they are using credit to cover essential expenses right now, and over half of those with credit card debt say that debt has increased over the past 3 months.
- Two in five people believe they will need to rely on credit to cover essential and unexpected expenses over the next three months.
Source: https://www.forbes.com/sites/kenrapoza/2022/09/08/ecb-rate-hike-means-recession-looms-oil-bull-running-on-fumes/