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Obamacare and rate rises

04 August 2017

What are the implications of the failure to get through a watered down Obamacare reform for Trump’s administration?

The Trump presidency has always been a case of what he can do, not what he wants to do. The US constitution gives the President a lot of power but there are constraints. Theoretically, a Republican president with a Republican majority in both houses should be able to get a lot done. In practice, Trump has been able to do relatively little and the failure of his Obamacare reform is just one example of the constraints that are being put on him. An Obamacare reform would have saved money that could be spent on other things, and as such, his intended tax reform package and infrastructure spending may be hampered as a result. In September the President will have to get a budget agreed or the debt ceiling will induce a gradual shut down of government agencies as they run out of money. Trump’s relationship with Congress remains the key to his ability to deliver on his promises.

The last two weeks have given us little reason to expect that the White House’s relationship with Congress will get any better. The revolving door to Trump’s cabinet keeps spinning, with Scaramucci in then out, Spicer and Priebus out and General Kelly promoted to Chief of Staff. General Kelly may bring some discipline to the White House staff but appears to have little experience of dealing with Congress. This week, Trump approved sanctions on Russia that had cross party support in Congress but almost immediately afterwards was critical of Congress encroaching on Presidential power and suggested the bill was unconstitutional. This will not improve his relationship with Congress and will only make it harder for him to make progress on the other things he wants to do.

Inflation is above target, why is the Bank of England not raising rates yet?

Rather unsurprisingly, yesterday the Bank of England’s (“BoE”) Monetary Policy Committee (“MPC”) voted 6-2 not to raise interest rates. The announcement was accompanied by the publication of their quarterly inflation report, outlining their expectations for the economy. Consumer Price Inflation (“CPI”) last month was 2.6% but the BoE expect it to rise to 3% in October and then to fall back to just above 2% in three years’ time bringing them closer to their 2% target. If this was the only consideration, we should expect interest rates to rise. However, the BoE’s remit specifies that in exceptional circumstances, “the Committee must balance any trade-off between the speed at which it intends to return inflation sustainably to the target and the support that monetary policy provides to jobs and activity”. The MPC deems the rise in inflation above target to be due to the devaluation of the pound following the Brexit vote last year. The quarterly report downgraded their expectations for economic growth, which is partly due to wages failing to keep pace with inflation; as a result consumers’ spending power is reduced. Their economic assumptions assume a smooth Brexit but clearly investment plans are being curtailed due to the uncertainty.

The Governor was pressed on whether he was concerned about the growth in consumer debt. He explained that after some years of debt deleveraging, consumers had started to increase borrowing again but he expects consumer spending to rise in line with wages, implying that this was not having a significant impact. They have been concerned about the way some lending was taking place and both the Prudential Regulatory Authority and the Financial Policy Committee have moved to counter this.

Effectively, the fall in real wages and tighter regulation on lending is putting a dampener on the economy and with Brexit uncertainty hanging over corporate investment they decided not to move interest rate policy now. They caution that if they are right then rates may rise slightly faster than the market prices but all members expected that rate rises would be gradual and limited in extent. The market expects the next rate rise in the first half of next year. Clearly the Governor was trying to steer a middle line on any debate about Brexit but he did talk about the desire for a smooth transitional period.

This was a slightly softer tone than some people expected. As a result Gilts rallied and the pound fell, which boosted UK equity markets.



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