At last, the financial authorities are looking to put together a coherent strategy to if not solve, then shrink, the effects of the credit crunch. Friday’s substantial rally in equity prices on both sides of the Atlantic was caused by a simple new rule; if you have a short equity position, declare it. At a stroke all those hedge funds that had been shorting (borrowing equities, selling them and then buying back cheaper to repay the equities to the lender) were forced to buy the shares back at any price. The resultant tidal wave of demand took bank stocks on average 30% higher on the day. The new rules here and in the US (a list covering 700+ issues) should ensure any new bad news is limited to the bank in question and not the financial system as a whole. Furthermore, the Paulson, Bernanke, Cox plan will allow some $700bln worth of toxic paper to be removed from the system. However, the banks involved will have to declare substantial losses to get the poison off their balance sheets and this will inevitably prompt more mergers and acquisitions. There is still a cogent argument for depositors to spread the risk over a larger number of banks, especially those with quality assets untainted by US toxic paper.
As expected the key economic figures last week proved to be woeful. Inflation as measured by the CPI shot up again by 0.6% last month to reach 4.7%. Merv once again wrote to the Chancellor to explain the deviance from the target of 2.0%. There was little that wasn’t said 3 months ago; oil, food commodities were the main culprits, however the Governor did point out that he expects costs pressures to abate in these key sectors. Of greater interest to the Committee is the state of the labour market. As expected unemployment by both ILO and claimant count advanced yet again, the latter by 32,500 and Blanchflower’s prediction of 2 million by Christmas now looks optimistic. More importantly average earnings remained subdued for the quarter to July – the headline rate increasing by 3.5% whilst the underlying rate moved by 3.7%. It looks as if the threat of unemployment is acting as a brake on wage demands. Unexpectedly retail sales volumes advanced yet again last month, this time by 1.2%. However, since the key beneficiaries of the publics largesse were footwear and clothing stores this surprise gain can largely be attributed to the back to school rush.
