Upside surprise to UK CPI

Chris Scicluna
Emily Nicol

Japan’s exports weighed by supply constraints, but drop in imports is sharper
At face value, today’s Japanese goods trade report suggested an improved export performance at the start of the fourth quarter, with the value of exports rising 2.7%M/M in October, the most since February. And with the value of imports up just 0.3%M/M, the seasonally adjusted trade deficit narrowed slightly to ¥445bn. Nevertheless, year-on-year export growth moderated more than expected in October, by 3.6ppts to 9.4%Y/Y, the softest since February and well below the average increase of 33%Y/Y in the previous seven months. Tallying with the ongoing weakness in production, this fading of growth was principally driven by supply bottlenecks in the transport equipment sector. Indeed, shipments of motor vehicles slumped 36.7%Y/Y in October (knocking 5.9ppts off the annual export growth rate), with sizeable declines in shipments to the US, EU and China alike. In contrast, on the back of strong demand from elsewhere in Asia, exports of Japanese semi-conductor-making equipment were up 45.1%Y/Y, while there was also strong growth in exports of iron and steel products (80.1%Y/Y).

Admittedly, when adjusting for price effects, the export performance was less rosy. For example, despite ongoing growth in shipments to the EU (although growth to that market slowed sharply to 5.3%Y/Y from 15.4%Y/Y previously), export volumes were down to the US (-8.2%Y/Y) and China (-4.4%Y/Y). And overall, export volumes fell 2.6%Y/Y. Soaring prices of mineral fuels continued to distort import values too, which were in total up 26.7%Y/Y in October, while import volumes fell 3%Y/Y. When also adjusting for seasonal effects, the BoJ’s measure reported the steepest monthly decline in import volumes (-5.4%M/M) since March to leave them at their lowest level since September 2020 and implying still very subdued domestic demand despite the ending of the state of emergency at the start of that month. So, while the BoJ’s measure of export volumes similarly fell to the weakest since September last year, the more modest monthly decline of 0.1%M/M in October implies that net trade continued to provide a positive contribution to GDP growth at the start of the fourth quarter.

Japan’s machinery orders disappointingly flat at the end of Q3, but outlook for Q4 more positive
Once again, Japan’s machine orders fell short of expectations. Contrasting with an anticipated increase, core private domestic orders (which excludes volatile items such as ships and capex by electricity companies) were merely flat in September having fallen 2.4%M/M in August. So, the annual pace of increase slowed sharply from 17.0%Y/Y to 12.5%Y/Y. Within the detail, the weakness reflected a notable drag in orders placed by non-manufacturers (-11.7%M/M), particularly in the telecommunications, wholesale and retail trade and real estate subsectors. In contrast, orders placed by manufacturers were up a substantial 24.8%M/M, underpinned by strong growth in the chemical and non-ferrous metals industries. While orders data are notoriously volatile, the trend of stronger manufacturing orders and weaker non-manufacturing orders was evident over the third quarter as a whole (up 8.2%Q/Q and down 3.9%Q/Q respectively). But, overall, core orders fell well short of the 11%Q/Q growth forecast at the start of the third quarter, rising just 0.7%Q/Q to suggest that private sector capex will remain subdued in the current quarter. Encouragingly, firms expect orders to bounce back in Q4 (+3.1%Q/Q) led by pent-up demand in the non-manufacturing sector and therefore implying a more favourable investment outlook heading into the New Year. Disappointingly, however, government orders were forecast to decline 6½%Q/Q in Q4.

UK inflation again exceeds expectations, pushed up by prices of energy, used cars
Following yesterday’s strong jobs numbers, this morning’s UK inflation data surprised on the upside once again, adding at the margin to the likelihood of a BoE rate hike next month. In particular, CPI inflation rose 1.1ppt in October to 4.2%Y/Y, 0.3ppt above the consensus forecast and the BoE’s expectation. Of course, the principal driver of the rise in inflation was energy prices, in large part due to the rise in Ofgem’s household energy price cap, as well as higher prices of auto fuel. Indeed, inflation of electricity, gas and other household fuels leapt more than 20ppts to 22.9%Y/Y, the highest since 2009. And with petrol prices also up again, energy inflation accounted for about 0.8ppt of the 1.1ppt rise in inflation last month, thus contributing about one third of the annual CPI rate.

Other major components also added to inflation in October. Services inflation rose 0.6ppt to 3.2%Y/Y, the highest since 2013, with significant increases in a range of items. Inflation of restaurants and hotels accelerated as firms passed on to consumers some of the 7.5ppt rise in VAT in the sector. Education fees were also much higher, seemingly reflecting increased university tuition fees for students from the EU post-Brexit. And inflation of air fares was higher too. Moreover, non-energy industrial goods inflation rose 0.3ppt to 3.6%Y/Y, in large part reflecting a further rise in prices of used cars (up 22.8%Y/Y) on account of the continued shortage of new vehicles. So, while food inflation was also higher (up 0.4ppt to 1.3%Y/Y), core inflation jumped a larger-than-expected 0.5ppt to 3.4%Y/Y, the highest since 2011.

We expect inflation to jump yet again this month to above 4½%Y/Y, and to peak at around 5.2%Y/Y early in the New Year. And inflation will remain elevated in the spring as Ofgem will increase its energy price cap once again in April, when the hospitality VAT rate will increase once again to 20% and firms might be tempted to pass on some of the cost of the increase in employers’ National Insurance Contributions to consumers too. Nevertheless, inflation should then start to decline steadily, as base effects associated with economic reopening become more favourable, prices of used cars normalise, and supply bottlenecks ease pressures on a range of other items too. If yesterday’s wage data are any guide, cost pressures from pay should also remain well contained. And wholesale natural gas prices should fall back too, enabling Ofgem to reduce its price cap in October 2022 and again in April 2023. So, we still expect the headline CPI rate to fall back below 2½%Y/Y by the end of next year, and below the BoE’s 2% target in 2023. As such, we expect Bank Rate to be hiked only gradually over coming quarters to end next year at just 0.5%.

Final euro area inflation to be confirmed at a series high 4.1%Y/Y, risks that core inflation was nudged slightly lower from the flash estimate
Today will bring updated euro area CPI figures for October, which are likely to align with the flash estimate that showed headline inflation rising 0.7ppt to 4.1%Y/Y, a euro-era high, as energy prices surged. Certainly, a downwards revision to the equivalent Spanish numbers (down 0.1ppt to 5.4%Y/Y) appears to have been offset by a modest upwards revision to the Italian headline CPI rate, by 0.1ppt to 3.2%Y/Y, leaving it 0.3ppt higher than September. But with the harmonised Italian core measure a touch softer than initially assumed at 1.2%Y/Y, from 1.4%Y/Y in September, there is a risk that the euro area core CPI rate will be revised slightly lower from the flash estimate of 2.1%Y/Y (which was merely 0.2ppt higher than in September), with the trimmed mean estimate likely to have ticked only slightly higher too. This morning will also bring construction output numbers for September, which are likely to report a rebound in activity following the sharp drop in August, while the ECB will also publish its latest Financial Stability Review. ECB Executive Board member Schnabel will speak at an event on the economic and monetary policy outlook for the euro area.

US housing starts to be limited by softer single-family building activity
In the US, today brings the latest housing starts figures for October, which are expected to have fallen back slightly as slow sales and an elevated inventory of unsold homes likely discouraged single-family building. 

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