Outlook is for a long recession and surging inflation The UK economy shrank in the second quarter for the first time since the pandemic, driven by a decline in spending by households and on fighting the coronavirus. Gross domestic product fell 0.1% after an 0.8% gain in the first quarter, the Office for National Statistics said Friday. A decline in Covid testing and vaccinations as well as slower retail sales and the first drop in household consumption in more than a year were the biggest drivers. Manufacturing also fell. The results mark the biggest bump so far in the recovery from the pandemic. The Bank of England expects that inflation raging at a 40-year high will tip the economy into recession later this year. The quarterly GDP reading was a notch stronger than the 0.2% contraction anticipated by both economists the BOE. It’s unlikely to shift the central bank away from further interest-rate hikes to control inflation. Officials have already raised the key rate to 1.75%, from 0.1% in December, and markets are close to pricing in another half-point rise in September. After the data, wagers on the pace of BOE tightening edged up slightly, and traders are now pricing in a further 150 basis points of hikes by May 2023. It is worth noting that hiking interest rates to fight inflation will slow growth but argued that it’s necessary to stabilize the economy over the long term.

German shoppers are getting increasingly angry at attempts to hike goods prices by stealth. While so-called shrinkflation -- where the cost of a product stays the same though its size declines -- isn’t a new phenomenon, consumer-protection authorities in Europe’s top economy are being inundated by complaints. Food prices are the biggest driver of German inflation after energy, rising at an annual pace of 14% in July -- almost twice as much as the overall index. That’s stretching the budgets of low-income households which, after more than two years of pandemic disruptions, have dwindling cash buffers. Germany’s statistics office is aware of what’s happening and says it isn’t fooled by such tactics. Price collectors tracking the costs of more than 300,000 goods and services each month also make note of the volumes they’re offered in. Prices are then converted so data reflect consumers’ pain. It is expected that German inflation will peak at 9.1% this quarter before gradually falling toward 2%.

War games come after Beijing wraps up exercises around Taiwan in show of strength. The US and China displayed their military strength in Indonesia and Thailand by holding war games over the weekend, as the rival superpowers worked to strengthen their influence in south-east Asia. China dispatched fighter jets to Thailand on Sunday in a joint air force exercise called Falcon Strike 2022 that Beijing’s defence ministry said would “enhance mutual trust and friendship”. The Thailand exercises coincided with the conclusion of two weeks of war games between the US and Indonesia, marking the largest version of the annual Garuda Shield live-fire drills since starting in 2009. Japan, Australia and Singapore also joined for the first time. The drills in south-east Asia come as tension between Beijing and Washington in the region is rising. US House Speaker Nancy Pelosi’s visit to Taiwan in August aggravated China, which claims the territory as its own. The speaker’s trip prompted a series of intimidation tactics from the Chinese military, including live-fire drills and the closure of blocs of water and airspace around Taiwan like a simulation of a blockade. The Association of Southeast Asian Nations called for “maximum restraint” in a statement that avoided referring to Taiwan by name and said it was “ready to play a constructive role in facilitating peaceful dialogue”. The US has historical strong alliances in south-east Asia and a military presence, though China’s economic influence over the region has grown dramatically in recent years. Beijing’s territorial disputes with a number of member states in the South China Sea have put several regional governments on edge. The region would continue to be a source of rivalry between the US and China.

San Francisco president points to price rises remaining ‘far too high’ but signals initial support for smaller rate increases. A top Federal Reserve official has warned it is far too early for the US central bank to “declare victory” in its fight against elevated inflation after new data showed a reprieve in consumer price pressures. Mary Daly, president of the San Francisco branch of the Fed, did not rule out a third consecutive 0.75% rate rise at the central bank’s next policy meeting in September, although she signaled her initial support for the Fed to slow the pace of its interest rate increases. Her comments come amid intense debate about how quickly the Fed will tighten monetary policy in the second half of 2022, after raising rates at the fastest pace since the early 1980s in the first half of this year. The federal funds rate, which hovered near zero in March, is now fixed between 2.25% to 2.50%. There’s good news on the month-to-month data that consumers and business are getting some relief, but inflation remains far too high and not near the price stability goal, after the latest consumer price index report showed no increase between June and July and a slower annual inflation rate of 8.5%. Still, “core” prices, which strip out volatile items such as energy and food, climbed higher, led by an uptick in services inflation. This is why it is not the right time yet to declare victory on inflation coming down. Daly on Wednesday maintained that rates should rise to just under 3.5 per cent by the end of the year, a level that constrains business and consumer activity. But she cautioned against moving too aggressively to damp demand. “There is a lot of uncertainty, so leaping ahead with great confidence that [a 0.75% rate rise] is what we need and being prescriptive would not be optimal policy.” She spelt out why a half-percentage point rate rise in September is her “baseline”. Daly pointed out that the Fed has already tightened monetary policy significantly and the full effects of those actions have not yet trickled through the economy. Other global central banks are also rapidly raising interest rates in a “synchronized” way to an extent that has dramatically tightened global financial conditions, she added, while growth prospects across advanced and emerging economies have soured.

Tech-heavy index gains as traders bet Fed will temper aggressive interest rate rises US stocks rallied on Wednesday, with the tech-heavy Nasdaq Composite index closing more than a fifth above lows hit earlier this year, after fresh data showed inflation steadying in the world’s largest economy. Consumer prices in the US rose 8.5% year on year in July, a slower increase than in June and below economists’ forecasts of 8.7%. The data published on Wednesday also showed that on a month-on-month basis, there was no increase in inflation in July compared with the 1.3% monthly rise in June. The figures added further fuel to a two-month recovery in financial markets, as traders bet the Federal Reserve might be led to temper its aggressive interest rate rises aimed at subduing soaring prices. The Nasdaq Composite, which includes big technology companies such as Apple and Microsoft, rose 2.9 per cent on Wednesday, bringing its gains to 20.7 per cent from lows reached in June. The fast-growing businesses in the index were hard hit this year as investors slashed their global growth forecasts and yields on Treasury bonds surged. The blue-chip S&P 500 stock index advanced 2.1%, closing above 4,200 for the first time since early May. The benchmark has climbed 14.8% from its nadir in 2022, although US stocks in aggregate are still worth about 8.6 trillion USD less than when the year started.  Measures of volatility, which have been elevated since Russia’s invasion of Ukraine and increased odds of a US recession began to rattle investors, also declined. The Vix index of expected stock market volatility fell below its long-running average of 20 for the first time since April. Asian shares largely followed Wall Street higher on Thursday, with Hong Kong’s benchmark Hang Seng index rising about 1%, while China’s CSI 300 index rose 0.5%. Japan’s Topix shed 0.2%.