I thought that we should start this week with a quote from that behemoth of Wall Street, Goldman Sachs. If only for fun, I thought that I would also repeat the description of the esteemed bank made by the American journalist Matt Taibbi back in 2009 as “a great vampire squid wrapped around the face of humanity, relentlessly jamming its blood funnel into anything that smells like money” (Rolling Stone, July 2009). Having established Goldman’s place in the financial pecking order, let us now come to this: “We believe the current energy crisis may be coming to a head, as a lack of adequate supply growth is becoming apparent…The possibility of $150-$200 per barrel seems increasingly likely over the next 6-24 months”.
Students of psychology will be familiar with what is usually known as the “Milgram experiment”. The basis of this was an exploration of the power of men in white coats, or what may also be called experts. Milgram’s experiment showed that we do the most extraordinary and inexplicable things (in this case, delivering likely fatal electric shocks) when told to by someone in perceived authority. Bearing Milgram in mind, let us come back to Goldman’s oil price forecasts. Many readers, I am sure, will know that this prediction was not made last week, but in May 2008.
I hope my argument is starting to come together now. We are designed to believe things that come from sources of authority. Thus if JP Morgan, for example, predicted that UK base rate would rise to 7%, we take it terribly seriously. We need to remember Goldman’s prediction of $200 oil in 2008. Even the most authoritative are just as hopeless at forecasting as everyone else. In fact, I might even argue that they are more so, because of the weight that their forecasts have.
Let me now come back to the vampire squid bit, as that was not completely random. Big Finance is a competitive business. It is also a Big Ego business. Financial institutions are prone to competing to make the most outlandish and outrageous predictions in a quest for a spotlight. What I think we started to see last week was the markets (meaning the major banks and investment institutions) finally losing confidence in the Bank of England. These new forecasts of a base rate of 6.5% or 7% show a Bank that has lost it. A Bank that believes that the only cure for inflation which is largely of its own making (and for which it is still in denial) is to put the economy into recession, crash the housing market and cause untold numbers of people to lose their jobs.
It is easy to chuck stones, and as the sporting analogy says, the greatest experts are always found in the stands, not on the pitch. It might be tempting to call for a change of Governor. Very tempting. That, regrettably, would achieve nothing. The Monetary Policy Committee, the body that sets base rate and which is chaired by the Governor, is no longer fit for purpose. When a Committee agrees, it ceases to have useful purpose, especially when it is wrong. The MPC lacks dissenting voices, it has become no more than a monthly (or so) reconfirmation of the misunderstanding that has created this mess. All are also supported by the staff, or researchers, at the Bank who think in precisely the same way.
Which brings me back to the cricket. This is definitely not a comment on how the Ashes series is being played, but one of the easiest traps for a fielding captain to fall into is known as ‘following the ball’: to move a fielder to where the ball has just been hit, in the expectation that the batsman will do it again. A good batsman will then hit the ball to the space made by repositioning said fielder. In monetary terms, this is precisely what the Bank is doing. It is reactive. And in a bad way. What we need to see is a faster fall in the reported rate of inflation; and even if we do get that, we then need to hope that the Bank and MPC remain reactive, and do not stick to their dogma that their medicine is working.
Last week we had the first signs that the pace of hiring in the US has started to cool. The reported non-farm payroll for June was slightly less than expected, but was accompanied by a much more significant downwards revision of a combined 110,000 to the previous two months. On Wednesday we see the latest US inflation number, which is expected to have fallen from 4% to 3.1%. This morning Chinese consumer price inflation was reported at 0.0%, and producer price (or factory gate) inflation at -5.4%. One might argue that the two largest economies do not have an inflation issue; and if they do, the challenge may be one of de-, not in-, flation.
Just for the record, and to finish on a positive note, the yield to redemption on a gilt maturing in September 2024 this morning is a smidge less than 5.5%. For anyone in the United States, or China, that must look like a terribly attractive proposition. It is not a surprise that, despite everything, the pound is rising.
Finally, congratulations to those who recognised last week’s lines from “2 Pints of Lager and a Packet of Crisps, Please” and “Kid Charlemagne”. Today, another from the early 1980s: “How does it feel when you got no food?”. And the Steely Dan special: “with jazz and conversation”.
Jim Wood-Smith – Market Commentator and Head of Climate Transition
All charts and data sourced from FactSet
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