MPC happy to let UK economy slow

The Monetary Policy Committee’s decision to leave UK interest rates on hold today suggests that the economy is not yet slowing any more sharply than the Committee believes is necessary in order to keep inflation on target over the medium term. 

Recent weeks have seen the first real signs that the UK economy is starting to cool in response to the weaker global environment, previous increases in interest rates and the credit crisis. House prices fell for a second consecutive month in October. Meanwhile, the services PMI dropped sharply in October, the recovery in manufacturing output appears to be fading, and recent retail surveys have brought signs that activity in the high street is also cooling. 

But the MPC has stressed that some slowdown in the economy is necessary, given its concerns over the medium-term inflation outlook. The latest news on inflation will not have altered that view. What’s more, the notion that the MPC will soon be forced to cut rates specifically to prop up the housing market does not sit comfortably with previous experience.  

Finally, although the financial crisis of recent months has posed an additional threat to the economy, the MPC remains anxious not to be seen to be acting to bail out irresponsible lenders and investors by responding specifically to the problems in financial markets. 

The danger is that  the economy will slow more sharply than the MPC intends and that this will eventually prompt the Committee to cut interest rates, perhaps quite aggressively. We may see rates coming down to around 5% by the end of next year, a slightly lower profile than that discounted by the markets. But it could be some months yet before the extent of the slowdown becomes clear enough to prompt the MPC into action. Bottom line: February seems the most likely month for the first cut, though next week’s Inflation Report might shed more light on this. 

Global Equities: Keep focused on earnings

Global stock markets could correct further in the near term, but a decent earnings outlook should keep the bull market on track.

Equity prices have stumbled in recent days on renewed worries about the financial sector fallout from the U.S. subprime meltdown. Hopes that the massive write-downs among financial companies in the third quarter would be a one-off event have proved misplaced, as more downgrades loom. However, the earnings glass for the overall market is still more than half full. Outside the financial sector, earnings expectations continue to rise, underscoring that there has been little contagion from the housing slump to the rest of the U.S. and global economy. Profit growth is in the process of bottoming out and should rebound next year. This augurs well for equities, especially with the Fed likely to ease further. Bottom line: Provided that there are not too many more CDO bodies to be dug up, an upbeat outlook for global equities can be justified.  

Why oil prices could start to hurt this time 

The experience of the last few years has confirmed that oil prices have become a much less important influence in the modern services-based UK economy. But there are reasons why the latest increase in prices may still have a damaging effect. 

For a start, while the earlier increases in oil prices came against a background of very solid growth in the global economy, the latest surge has coincided with signs of a slowdown in activity. Admittedly, continued growth in Asia, particularly China, looks set to keep world GDP expanding at solid rates and hence supporting the demand for oil. But the UK’s key export markets, including the US and Europe, are likely to be rather weaker than they have been over the last few years. 

At the same time, the latest rise in oil prices comes against a weaker outlook for the domestic economy too. So far, the impact on household spending appears to have been at least partly offset by other, more positive, developments. In particular, the strength of house prices has encouraged households to compensate for weaker income growth by running down their savings. But with growing signs now that house prices are set to fall – or are even falling already – these offsetting effects look likely to be rather weaker over the next year or so. 

Bottom line: There is a clear danger that the renewed rise in oil prices will prevent policymakers both at home and abroad from loosening policy as quickly or aggressively in response to slowing activity as they would otherwise have done.  

And finally..............

In Pharmacology, all drugs have two names, a trade name and generic name. For example, the trade name of Tylenol also has a generic name of Acetaminophen. Aleve is also called Naproxen. Amoxil is also call Amoxicillin and Advil is also called Ibuprofen.  

The FDA has been looking for a generic name for Viagra. After careful consideration by a team of government experts, it recently announced that it has settled on the generic name of Mycoxafloppin. Also considered were Mycoxafailin, Mydixadrupin, Mydixarizin, Dixafix, and of course, Ibepokin.  

Pfizer Corp. announced today that Viagra will soon be available in liquid form, and will be marketed by Pepsi Cola as a power beverage suitable for use as a mixer. It will now be possible for a man to literally pour himself a stiff one. Obviously we can no longer call this a soft drink, and it gives new meaning to the names of "cocktails", "highballs" and just a good old-fashioned "stiff drink". Pepsi will market the new concoction by the name of: MOUNT & DO.  

Thought for the day: There is more money being spent on breast implants and Viagra today than on Alzheimer's research. This means that by 2040, there should be a large elderly population with perky boobs and huge erections and absolutely no recollection of what to do with them.

Prometheus from sources: ADM, Barclays Capital, Cazenove, Charles Stanley, HSBC, ING, SocGen, UBS.