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Client Update - 6th May 2022

The US Federal Reserve (Fed) announced on Wednesday that interest rates were being increased by 0.5% to a range of 0.75% to 1.0%. Although not remotely a high interest rate in itself, this was the biggest increase in interest rates for more than 20 years. The Fed also confirmed that it will start to reduce its holdings of Treasury and mortgage-backed securities from 1 June, initially at a monthly pace of $47.5 billion.


Fed Chair Jerome Powell noted that the labour market was extremely tight and inflation much too high, while the economy had proved resilient over the past two years. He said that further 0.5% point increases were therefore on the table, although he said the Fed were not actively considering a larger, 0.75% point rise.


By upping the tempo and delivering a 0.5% rate rise, while simultaneously taking a future 0.75% hike off the table, Powell is attempting to engineer a soft landing. He will not want to be remembered as the central banker who let inflation run out of control, but he also does not want to trigger a recession. However, it is an extremely difficult balancing act for Powell. If he successfully manages to pull off this delicate tightrope walk, it would be a great triumph. The danger is that 0.5% hikes prove insufficient to dampen rampant US inflation and that the Fed falls further behind the curve, making more aggressive (and painful) steps necessary further down the line. After an initially positive market reaction to the Fed rate rise, markets in the US turned lower in light of this possibility.


In the UK, the Bank of England increased interest rates by 0.25% to 1.0%. This was the fourth consecutive increase and takes interest rates to their highest level since 2009. The decision was in line with market expectations, although three of the Bank’s rate setters voted for a larger 0.5 percentage point rise. The Bank noted that global inflationary pressures had intensified sharply following Russia’s invasion of Ukraine, adding that UK inflation was expected to peak at slightly over 10% in the final quarter of 2022.


The global economic outlook has never before been shaped by the effects of a rapid recovery from a global pandemic, ongoing supply issues, a European war and an existential need to shift the basis of most economic activity away from a two century-long dependence on fossil fuels. It would not be a surprise if inflation is going to be higher and more volatile. What is not clear is whether inflation becomes institutionalised as it was in the 1970s and 1980s. At some point China will have dealt with COVID so supply can resume, shipping backlogs will ease, and energy prices will come down. In the meantime, however, central banks are looking to normalise interest rates and we watch the situation unfold with great interest. I hope you have a good weekend.

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I thought it would be good to take a short break from the inflation / interest rate issues within the UK and US markets and for this week cast our eyes over to Asia, with particular focus on China and