Email of the day (1)
Comment of the Day

May 14 2013

Commentary by Eoin Treacy

Email of the day (1)

on a more optimistic forecast for the UK economy
“This article by Simon Ward at Henderson provides rather more optimism about progress of the UK economy than the mainstream press or even the government manage to muster.   His focus on real growth in money supply (M4) in both households and non-financial firms seems wise, and his observation that "the real or inflation-adjusted money supply leads demand and activity by six months" is intriguing for investors. I also tend to focus on M4 as well as the yield curve when assessing potential for continuation of bull trends. You may remember an analysis of mine you kindly published on 26 April 2010. If Simon Ward is right that the growth in M4 is perhaps as or more important than QE per se then hopefully fears about eventual withdrawal of QE may prove ill-founded.

“Finally, very grateful thanks to both of you for the truly excellent service you provide.”

Eoin Treacy's view Thank you for your kind words, this informative email and also for reminding us of your valuable contribution from 2010 which highlighted the reliability of an inverted yield curve in predicting recessions.

The UK has made use of a wide arsenal of policy tools in its efforts to counter the deflationary threat of a banking system that almost imploded. The devaluation of the Pound, massive money supply increases and a willingness to tolerate higher inflation have all featured as part of the solution.

I do not think it is correct to treat M4 and quantitative easing as separate subjects. After all, one of the results of extraordinary monetary intervention is to increase money supply. Therefore when Simon Ward speaks of money supply growth as a lead indicator we need to be cognizant of the fact that money supply is growing at such a prodigious rate because of quantitative easing.

The UK's yield curve (10-year - 2-year) peaked at just over 300 basis points in 2010 and has since halved. The 2010 peak was the widest level posted in at least 20 years. Relative to its past peaks, this represented a significantly more accommodative level than seen previously. Even at today's 150 basis points, monetary conditions are still loose by historical standards.

The measures taken to date have allowed the UK economy to recover some of its lost competitiveness. It is now playing to its strengths in financial and commercial services as well as engineering. The stock market is also host to a wide array of globally oriented companies.

The squeeze on the middle classes, which more than a few countries are dealing with, remains a significant challenge but while growth has been slow to recover, the worst is probably behind us.

Despite the slow pace of economic expansion, asset prices respond to money supply growth and contraction. Since conditions are still accommodative, the environment can still be considered a tailwind.

The FTSE-350 Index hit a new all-time high yesterday. While some additional consolidation in the region of the peak is a possibility, a sustained move below 3200 would be required to begin to question medium-term scope for continued upside.

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