How does the Inheritance tax work?

Inheritance tax was first introduced in 1984 and is tax paid on the estate, this includes property, money, and possessions of someone who has passed away. This tax must be paid on anything above the value of the £325,000 threshold. If everything above this threshold is left to a spouse, civil partner, charity, or a community amateur sports club there is no tax required to be paid.

The standard tax rate is 40% on what you inherit over the £325,000 threshold with £7 billion being raised annually through inheritance tax which is then spent on public services.

If the person passing away leaves their home to children or grandchildren the threshold can increase to £500,000 before being taxed.

If your estate is worth less than your threshold and you are married or in a civil partnership when you pass away, any unused threshold can then be added to your partner’s so the tax-free allowance increases for them.

In an interview with Clive Barwell, who has over 50 years of experience in the industry told us invaluable information about IHT, that the best and easiest way to save on IHT is to give your surplus wealth away as gifts.

“At the point of making a cash gift, there are no tax implications for either the Donor or the Donee, regardless of the amount given away. However, for the gift to be fully effective for IHT purposes, the Donor must survive for 7 years from the date of the gift. If they don’t, the value of the gift is added back into the IHT calculation upon death.”

Clive Barwell emphasises the significance of planning ahead and believes that “Failing to plan is planning to fail.”

Why does the Conservative Party want to cut Inheritance tax?

Towards the end of 2023, there was speculation that the conservative government would be getting rid of inheritance tax due to their plans for a 'gear change' on tax. Those in favour at this time were warned of the backlash from the public as this change focused on tax cuts for the rich rather than helping ordinary families in a time of economic uncertainty.

Then on December 27th, 2023, The Telegraph reported that several conservative MPs favoured cutting inheritance tax and the change could happen in the Spring budget.

The conservative party are said to be behind Labour in the polls and looking for ways to boost their numbers. The Independent stated that members of the conservative party believed that this could be a “game changer.”

Who will this benefit?

The Institute for Fiscal Studies notes that 1% of people in the UK would receive almost half of the benefits. Only the wealthiest in the UK will come out of this change with a positive outcome.

As inheritance tax is only paid by 4% of households, that’s 1 in 25 paying this tax.

A YouGov survey tells us that 54% of voters considered the tax ‘very unfair’ or ‘unfair.’ With a high proportion of people feeling the tax is unfair, the Conservative Party feel this gives them an advantage in upcoming elections.

How likely is it to be abandoned?

Although there are rumours that many MPs are in favour of the inheritance tax cut there are also some expressing their distaste for this cut. Jonathan Gullis, former Education Minister has said he would rather see “the higher rate income tax threshold raised, or the basic rate of income tax cut now.”

Additionally, Neil O’Brien, the former Health Minister has said, “People most want to cut taxes that fall on low- to middle-earners and council tax and VAT.” The Guardian brings an Ipsos poll to our attention that showed the public preference for a tax cut was one on low-income tax (44%), followed by 36% hoping for council tax cuts.

It is largely felt that IHT being cut is just a speculation as some conservative members are highlighting other, more pressing matters that are important to the public. The MPs are also aware of the likelihood of backlash with this change causing the delay and second thoughts.

The cutting of inheritance tax could likely become a manifesto pledge rather than a set-in-stone policy.

HOW MUCH MORE PAIN IS THERE TO COME?

Investment Company Managers on Interest Rates, Inflation and Bond Markets

Expert Comment from Chris Clothier, Co-Manager of Capital Gearing Trust, Samantha Fitzpatrick, Fund Manager of Murray International Trust and Andrew Bell, Chief Executive Officer of Witan Investment Trust

With UK inflation coming in above expectations at 8.7%, the likelihood of an interest rate hike from the Bank of England has increased. The Association of Investment Companies (AIC) has gathered comments from investment company managers on the outlook for UK consumers and borrowers, and where they see investment opportunities in the current environment.

Could we be near the peak for interest rates?

Chris Clothier, Co-Manager of Capital Gearing Trust, said: “The market is forecasting a peak rate of just under 6% for Q1 2024. Leading indicators are beginning to show the labour market cooling, and the impact of interest rate rises is starting to be felt on mortgage rates as mortgage holders come to the end of their fixed terms. We expect that this will eventually depress demand which, combined with energy and food inflation moderating, will eventually control inflation.”

Samantha Fitzpatrick, Fund Manager of Murray International Trust, said: “Many central banks, including the Bank of England, have continued with planned interest rate hikes amid volatile markets in an attempt to tame inflation. We are only now seeing the huge knock-on effect on mortgage rates as previous deals are rolling off in significant numbers. This, above all else, may curtail future interest rate hikes here in the UK.”

Andrew Bell, Chief Executive Officer of Witan Investment Trust, said: “In the US, a further nudge higher cannot be ruled out, but the data is likely to make the recent pause look more justified in a month’s time. In Europe and the UK, a further quarter-point rise or two is widely assumed, but it is impossible to be precise because of the lags before higher rates impinge on sentiment. After such a long period of a near-zero cost of borrowing, small steps would be wise. No central bank wants to crash the economy and have to cut rates aggressively next year just to crown the credibility lost from failing to anticipate the surge in inflation with blame for exaggerating its persistence.

“With inflation starting to converge with official targets, greater patience can be exercised than when the gap was widening. So we expect the peak in rates to resemble Table Mountain more than the Matterhorn. It is an unspoken reality that the government debt mountain will have to be eroded by inflation – not the destabilising rates of the past year but likely higher than official 2% targets.”

Is inflation calming down?

Andrew Bell, Chief Executive Officer of Witan Investment Trust, said: “Yes, most obviously in the US, which tightened first and most aggressively, together with a strengthening dollar in 2022. Energy prices there have fallen and rental inflation is also set to fall, lagging the declines in rent seen in newer contracts. In Europe and the UK, inflation is proving stickier but rates are still rising and the effect of past rises has yet to be fully felt. In the UK, particularly, the greater use of fixed rate mortgages has blunted, but only delayed, the effect of rapid rises over the past year. Having seen several disappointing inflation numbers in recent months, investors may be guilty of extrapolating the disappointment, ignoring the possibility that the numbers will start to match, or undershoot, forecasts.”

Samantha Fitzpatrick, Fund Manager of Murray International Trust, said: “Headline inflation is already falling sharply almost everywhere and should continue to decline over 2023 due to energy base effects. However, core inflation remains elevated, including here in the UK. It also needs to be remembered that even a lower positive number still means prices are rising, not falling, or even staying the same, so inflationary pressures will not disappear anytime soon.”

Chris Clothier, Co-Manager of Capital Gearing Trust, said: “We expect inflation to come down later this year, but at a slower pace than markets or the Bank had initially expected. A combination of supply and demand-side factors has served to keep inflation elevated. On one hand, supply-side factors such as tight labour markets and the prolonged impact of shocks from food and energy have kept input costs elevated. On the demand side, continued wage increases and longer fixed terms on mortgages have kept household spending elevated for longer. This experience of more protracted inflationary episodes is in line with historical experience: a study by Research Affiliates of OECD countries since 1970 showed that, once inflation has gone through a 6% peak on average it took seven years to fall back to 3%.”

Where are you seeing investment opportunities in the current circumstances?

Chris Clothier, Co-Manager of Capital Gearing Trust, said: “The bond market is replete with opportunities not seen for 15 years. We are attracted to UK Treasury Bills yielding more than 5%, short-dated investment grade corporate credit yielding between 6.0% and 7.5% and five-year UK index linked gilts offering real yields of 0.9%.”

Samantha Fitzpatrick, Fund Manager of Murray International Trust, said: “At Murray International Trust, the soaring cost of borrowing led to £60 million of debt being repaid at the end of May this year. Our approach to gearing remains unchanged, in that it should always be driven by opportunity – can we make money on the debt? We are fortunate to be able to pick and choose what debt we decide to have in these uncertain times.”

Andrew Bell, Chief Executive Officer of Witan Investment Trust, said: “Bond yields have risen from risible to visible and now offer a positive real yield based on long-term inflation forecasts. They can now just about fulfil their role as portfolio diversifiers and preservers of value but that is about it. In Western economies, long bond yields are lower than short-term yields, suggesting that the bond markets think rates will need to be cut in the next year. If central banks avoid overkill (and stop steering policy using the rear-view mirror) growth should pick up in 2024, which might slow progress on inflation and nudge long yields up but would benefit the parts of global equity markets that are pessimistically valued. Broadly, that means non-US equities in cyclically sensitive sectors and those benefiting from enduring growth themes, of which two particularly interesting ones are the decarbonisation energy transition and the spread of AI.”

When we hear the likes of ex-Prime Minister Liz Truss accused of reverting to an economic theory known as trickle-down economics, what do ‘they’ mean?

What is trickle-down economics?

In its simplest form, trickle-down economics is the theory that by increasing the wealth of the rich, they will spend more money, which would trickle down throughout society, leading to more wealth for all.

How does trickle-down theory work?

The theory itself is relatively simple, with the concept being that if we cut income and corporation taxes in our society and de-regulate our financial institutions, the increased wealth of these individuals and corporations would result in the rich being able to spend more of this additional money. The rich would then, in theory, invest and spend this new excess in wealth, which would, in turn, result in an increased demand for goods and services, increasing employers’ ability to recruit more staff and offer higher wages.

In this theory, the argument presented is that cutting taxes increases the incentive to work. If workers have a lower income tax, they would then be incentivised to work longer. In addition, reducing taxes such as corporation tax should encourage businesses to invest, which would, in theory, increase wealth.

Another outcome would be that the wealthy would invest in businesses, creating new jobs and more income for those employed. If the wealth is invested in new companies, it will create new jobs and increase the incomes of those employed.

As a result of the above-referenced spending and investment, it is theorised that this would stimulate economic activity, which in turn would increase tax revenues through more income tax due to the increased jobs or higher VAT due to increased spending.

These higher tax revenues could then fund public programmes such as healthcare, education, and welfare payments to the poorer in society instead of, the higher taxation that limits the richest in our society from investing.

Does trickle-down economics work?

This is mostly subjective and down to which side of the economic spectrum you lean on. It has both its pros and its cons, and essentially, as with most things in life, it would depend on how you would be personally affected.

There are examples of trickle-down economics in practice. Famously, President Ronald Reagan and his “Reagonomics” became a beacon to those who believed in trickle-down economics when he passed two tax reform bills in the 1980s which brought tax down for higher earners from 73 percent to 28 percent, as well as reducing corporation tax from 46 percent to 40 percent. It is argued that as a result of this, the USA came out of recession in the 1980s and is lauded as an example of trickle-down economics working.

However, this paints only a small picture of that time, as in addition to reducing taxes, government spending increased by 2.5 percent a year, and federal debt in the USA tripled. Therefore, it is argued by its detractors that trickle-down economics in its purest form wasn’t ever implemented fully, and it could have been the increased government spending that, in fact, ended the recession.

There are further examples of this theory being put into practice, such as President Herbert Hoover’s Great Depression stimulus after the crash in 1929, Prime Minister Margaret Thatcher’s policies in the 1980s, and President George Bush’s Tax Cuts in 2001. So the theory has been tested, though some would argue not to its full extent and in its purest form.

In reality, however, one thing that becomes very apparent when this process is applied is that economic inequality increases. Suppose we use President Reagan’s and President Bush’s cuts as examples. According to trickle-down economics, Reagan’s and Bush’s tax cuts should have helped those at all income levels. But the opposite result took place: income inequality worsened. Between the years 1979 and 2005, the bottom fifth saw a 6% rise in after-tax household income. While this on its own seems great, it’s important to note that the top fifth experienced an 80% increase in after-tax household income. The income of the top 1% tripled, showing that prosperity was trickling up rather than down.

Why does economic inequality happen as a result of trickle-down economics?

In most cases of its implementation, the rich get much richer because they don’t want to invest their excess wealth. As a result, money is often stored in off-shore accounts to further preserve their new wealth. Furthermore, tax cuts for the richest in society don’t often translate to increased consumer spending, rates of employment, and government revenues in the long term. Inequality rises, and examples of the opposite system seem to work better with tax cuts for middle- and lower-income earners driving the economy through the trickle-up phenomenon.

In Conclusion

The trickle-down economics system does have its merits; however, in most practical examples, the successes are somewhat clouded due to the use of other measures to prop up trickle-down economics as a system. Therefore, it seems that as yet, we haven’t seen the theory work on its own, and with the recent failure of the Liz Truss & Kwasi Kwarteng mini-budget in the UK in October of 2022, it seems that this may continue until a severe shift in economics and public opinion can happen.

Jacob Mallinder – Finance Monthly

Corporate treasurers have barely had a moment to catch their breath. A pandemic, geopolitical conflict, rising interest rates, financial market volatility, bank collapses, and other major issues have caused a relentless amount of disruption.

But what some treasury teams might not yet be adequately grasping is that it is not a temporary state: volatility is the new normal and corporate treasury teams must adapt with urgency or risk getting caught unprepared if the next adverse event impacts their organization’s financial health even more directly.

In particular, corporate treasury teams must take steps to build their own safety net—not for “normal” fluctuations in operating conditions, but for a world where regular volatility is itself the norm. Doing so is key to ensuring alignment with the CFO and broader C-suite’s strategic goals in ever-changing conditions.

Don’t let past stability mislead you into overconfidence in your financial strength and flexibility. Effective corporate treasury planning and execution are challenging even in the best of times, and it’s become an order of magnitude more difficult given now-ubiquitous choppiness in virtually every industry.

Corporate treasurers and the office of the CFO can strengthen their organizational alignment and stability if they take proactive steps to adapt. Consider these three strategies for doing so.

1. Refocus on the fundamentals.

Particularly within any organization that has not yet felt the effects of such regular macro disruption, it may be tempting to adopt an “if it ain’t broke, don’t fix it” mindset. But that risks ignoring the realities of the past three years. Instead, it’s time to proactively and holistically revisit and optimize treasury fundamentals, including a thorough understanding of your cash positions, your forecasting, and other core treasury activities.

Making an effort (now) to do this creates the foundation for fostering organization-wide stability, but it also empowers the business to more rapidly pursue new strategic opportunities or competitive advantages. To not do this likely means you’re not maximizing your working capital and operating from a position of strength.

The rising interest rate environment is a great example of the need for agility. There’s regular movement into and out of various asset classes as a means of chasing and optimizing yield, yet many organizations aren’t positioning themselves to take advantage. They can’t react quickly enough or do things like real-time payment transfers, which subsequently means they’re underutilizing their valuable capital.

2. Go beyond the basics.

In volatile capital markets and macroeconomic conditions, the basics—an ERP system, your bank portal, etc.—are no longer sufficient on their own. You need a comprehensive, single source of truth about your cash positions. Otherwise, depending on the specifics of your FI structure, you’re probably missing out on interest rate arbitrage opportunities. And if you’re a multinational business, your FX strategies are probably not working optimally.

The pandemic, in particular, underscored the need for systems that codify data and knowledge, so that when employees leave, there is minimal “brain drain” effect.

This is all the more crucial because volatility isn’t just a matter of macroeconomics. Big-picture conditions constantly intersect with a company’s microeconomics, and when the latter isn’t well understood by the people who need to know it best – the treasury team – then missed opportunities and major problems are more likely to happen.

Without actionable, visible knowledge, treasury teams can’t make decisions in real time. Recent bank failures are a stark reminder of the need to understand how macro conditions intersect with company specifics on a 24-7 basis. Corporate boards are asking more direct questions about the business’ cash positions, risk exposures, and organizational readiness to adapt in the face of significant disruption. Clear, actionable answers to those questions require clear, actionable information.

Sub-optimal interest rate hedge programs are a direct outcome of disjointed approaches to cash management and forecasting. Traditional hedging programs have focused too much on “easing” the CFO and other stakeholders into a changing rate environment. But what if the C-suite wants to act with urgency? That’s no longer sufficient in terms of how you manage risk in a volatile rate and FX environment.

If you’re still running the same generic program put in place a year (or more) ago, it’s time to revisit it.

3. Invest in automation and digitalization.

Underpinning all of this is a lack of digitalization and automation in the corporate treasury realm. Teams are relying on manual, legacy processes because that’s what has always been done, not because that is the best path forward.

True strategic alignment with the C-suite and board requires the visibility and nimbleness that comes with increasing automation and optimizing processes for the digital age. This is both a technology and culture endeavor of “the way we’ve always done things” can’t be treated as sacrosanct.

As Catherine Portman, VP, Treasurer at global cybersecurity firm Palo Alto Networks told me recently: “Automation has been critical to modernizing our treasury operations, and the improvements are stark. We’ve spent the last 18-24 months increasing our use and integration between our global Treasury systems, our banking partners, and ERP system. Instead of manual banking logs, downloading documents, and tracking balances across a myriad of spreadsheets, we’ve fully automated our process. This not only reduces manual work but ensures a more timely, less error-prone operation that can accommodate increased volume as the Company’s activity grows. These efforts align with our CFO’s vision to simplify, build systems to scale, and enable efficient global processes across the organization.”

The bottom line depends on accurate, real-time data. Boards demand it, C-suite leaders demand it—and corporate treasurers should, too. It’s the only viable way (especially given that treasury teams are being asked to more than ever with the same headcount) to ensure stability and strength.

By adopting automation and adapting processes for the age of disruption, treasury teams won’t just survive – they’ll thrive and help their businesses do the same.

Renaat Ver Eecke is the CEO at GTreasury, a treasury and risk management platform provider. 

2023 will be an interesting year as it precedes 2024. Although that sounds obvious, 2024 will see a new European Parliament and Commission and, in all likelihood, a general election in the UK (not to mention a Presidential election in the US). In Brussels, there will be a focus on getting the programme of the current Commission finalised as far as possible and, in the UK, the current Government will be pushing to demonstrate it should be given an extended mandate.

Pressure will be building on policymakers to act, and this will need close attention. Companies should be ready to act to influence the process, whether directly or indirectly (for example through the media).

David Cook, Partner at Penta, sets out the drivers for those of us watching closely where the EU and UK are going.

Competitiveness

Despite some thawing in relations in 2022, the shadow of Brexit continues to loom over both the UK and EU and competitiveness between jurisdictions has become a key concern. In the UK, the Financial Services and Markets Bill will provide regulators with a secondary objective to consider the UK’s competitiveness. The UK government has also set out its strategy for regulation in the form of the Edinburgh reforms. These focus mainly on reform to parts of the UK system that have proven unpopular and have been badged as using Brexit freedoms. Ironically, some of the highest profile reforms are in areas, like ringfencing and the senior managers’ regime, that were not actually related to EU law.

In the EU regulation aims to provide the single market with ‘open strategic autonomy’. This nebulous label intends to boost the efficiency of the single market and the competitiveness of EU firms while not relying on ‘third countries’ such as the UK.  The EU is looking to make tangible progress on its Capital Markets Union agenda, and tech and data will be important features in the regulatory work of the EU in 2023.

A regulatory focus on competitiveness might sound attractive, but memories remain of the financial crisis, before which competitiveness was a regulatory objective, so there may be reluctance to embrace it. Also, regulators do not have a great record of promoting innovation and data-driven change in Europe, so a close eye will need to be kept on this.

Crypto

2022 has been dubbed the crypto winter with huge falls in the value of cryptocurrencies and some high-profile failures in the sector, including FTX and Terra. This has led to a dilemma for policymakers in Europe. The focus on competitiveness means some want to welcome this innovative technology that many people continue to believe has an exciting future. However, the risk to investors, financial stability and even the ability to police and control the supply of money is causing sleepless nights in some institutions.

The EU is, as usual, ahead of the international game when it comes to producing regulation. Its flagship regulation, MICA, is agreed and ready to pass into law (although it will be some time before it needs to be adhered to). The EU has also advanced its work on digital currencies and the ECB is currently pulling together a group on rulebook development.

Similarly, the UK is preparing consultations on crypto asset regulation and digital currency. Except for new powers around financial promotions, new regulation is not expected in 2023. However, the direction will be set in 2023.

Whether the UK and EU adopt similar approaches remains to be seen. A competitive environment could emerge where each jurisdiction seeks to be at the forefront around, for example, blockchain adoption or central bank digital currency. This might introduce risks around intended consequences, where regulatory approaches are not properly analysed in a rush to move forward. Equally, there could be excessive caution that limits the development of the sector in Europe. It will also be interesting to see how the UK and EU overcome the dichotomy of regulators, who will be very concerned about the risks, versus those who want an environment focused on innovation.

Sustainability and productive finance

In an environment where public finances are suffering from severe stress, governments have been focussed on how private sector finance can be used for public policy purposes and how investors can be sure their money is used for such purposes. This is most apparently seen in the regulation around climate change where the EU’s impressive array of rules, including the Taxonomy and disclosure requirements, are becoming a huge compliance challenge for many firms operating in the EU. The UK is pursuing its own agenda and there’s an ambitious approach being developed where the divergence from EU rules is creating its own challenge.

There are also plans to consider how changes in regulation can increase sustainable investment and, in the UK, other policy objectives such as levelling up and promoting innovation. Last year saw the candidates to become UK Prime Minister talking in public debates about how changes to regulation such as Solvency II could be used to promote more of this type of investment in the UK.

Changing regulation in the EU and UK will create risks, burdens and opportunities for the firms that fall into scope. New disclosure requirements are likely to be hard to meet but changing investment rules could play to particular businesses’ strengths. Firms should ensure policymakers understand what’s practical and effective.

Energy

The events of 2022 mean that energy security and cost are a top priority in Europe and politicians have been quick to act to support markets and consumers. When it comes to financial services, there are three main concerns. First, can investment be increased to help reduce the reliance on fossil fuels generally, and Russian gas specifically? Second, have markets delivered efficiently for European consumers. Third, could energy market turbulence lead to turbulence on financial markets, as seen in markets such as the London Metal Exchange.

Of these three, the first concern has increased the urgency around creating a regulatory framework to increase investment in non-fossil fuels (as described above). For the second point, appetite for direct intervention by authorities in markets has been rising, particularly in the EU. This is very uncomfortable for those firms active in energy markets where price caps and public sector produced financial instruments (like price benchmarks) are likely to distort markets and could undermine confidence if not properly calibrated. Policymakers, lacking specific expertise, are going to need a great deal of assistance.

Finally, the third point about risk moving from energy markets to financial markets is likely to be challenging, particularly for those firms who prefer to avoid operating under the burden of financial regulation. Without proper calibration, new measures are likely to raise the costs of operating on energy markets and lead, ironically, to higher energy costs.

Financial Crime

Finally, a focus for regulators will be around how to reduce the levels of financial crime and keep investors safe. The losses to investors caused by the collapse of crypto-currency prices have been part of the story, but there have been a number of misselling scandals that have embarrassed regulators and shaken confidence in investing. In the UK we can expect to see the FCA act to strengthen the approach it is taking to protect consumers. We should also see regulation that helps reduce scams by increasing the requirements on banks and social media providers.

In the EU there is a package of measures around anti-money laundering under development to ensure a more harmonised approach across the single marker and also create a new EU-wide regulator to enhance supervision. This is likely to mean increased compliance and due diligence costs for those brought into scope.

Employers added 223,000 new positions last month, pushing the jobless rate down from 3.6% in November to 3.5%, sparking hopes that the largest economy in the world will avoid a drastic economic downturn.

It has held this position since the 1890s, buoyed by technological, financial, and manufacturing technologies. In recent years, China has modernized and transformed into the fastest-growing economy. Today, the Chinese economy is second only to the US in size. The top two economies control 41.89% of global GDP.

What is GDP and why do we use it as a measure of economic success? GDP is a measure of the goods and services produced in a county during a specific period, usually a year. In a growing economy, the volume of goods and services grows. As the economy slows, the number of goods and services will also slow down or even contract.

Is the US Heading for a Recession in 2023?

GDP in the US has grown steadily since the financial crisis of 2009. It quickly rallied from the pandemic recession because of the vast and lasting government response. 2021 brought growth and prosperity. The country was hit by hard-hitting inflation, the highest since the 1980s.

The Conference Board of Forecasts expects economic difficulties in the US to expand in the wake of persistent inflation and the Federal Reserve’s aggressive fightback. The bank increased interest rates several times during 2022 by an accumulated 4.25%. The Board’s expectation for 2023 is a recession and a zero increase in GDP for the year. The forecast is for a short relatively mild recession with a rebound toward the end of the year.

When Will Inflation Drop?

Interest rate increases have affected the housing market, as mortgage repayments escalate. The rampant dollar will negatively affect US corporate profit margins. The inflation rate is likely to soften from the 2022 projection of 7.7% to a much lower 3.4%. Lower housing prices, high inventories, and decreasing demand will all help to moderate inflation.

Slowing inflation will allow the Federal Reserve to curb interest rate increases. The bank has signaled its intention to continue raising interest, at least in the first quarter of 2023. Thereafter, it is likely to hold interest rates and start to reduce rates in 2024.

US Economic Outcomes 2023 and Beyond

Employment growth in the US in 2022 has been nothing short of remarkable. November’s unemployment rate was 3.7%, so organizations battle to find the skills they need. Large layoffs in 2023 are unlikely because companies will want to retain the skills. Still, Morgan Stanley predicts that 2023 will end with a slightly higher unemployment rate of 4.3%.

The ageing population could present the US with one of the biggest financial headaches of the future. In an economy already at full employment, a declining workforce will lower productivity, and cause increased wages and inflation. Future government policies must center around expanding the tax base and building healthcare infrastructure for elderly care.

The outlook for 2023 is far from certain. The war in Ukraine, ongoing gas shortages, supply chain shocks, and the increased cost of energy will continue to weigh on prices and growth.

China’s recent pivot on its zero Covid-19 policy should increase global trade as the borders open and trade increases. The Chinese people are not as well-inoculated as the western world. An exposed population may succumb to severe illness. This could force a return to economic lockdown in China with knock-on effects on the global economy. 

What about the long-term future? Will the US retain its current position as the world’s biggest economy? Global consultants PricewaterhouseCoopers, in their 2017 report called “The Globe in 2050” predict that India and China would overtake the US as the world's largest economies. The report forecasts a world economy that doubles between 2016 and 2042. Emerging markets like Brazil, China, India, and Indonesia will drive this growth.

It's pointed out that the rise in rates has been done by central banks "with a degree of synchronicity not seen over the past five decades" to tackle soaring prices,

The trick is not to be distracted by the noise and avoid drawing all the wrong conclusions. So, I try not to scream when the market seems blithely unaware of the cataclysm of bad news threatening to overwhelm it.

More often than ever before I find myself wondering if markets have some form of dementia. Stocks suddenly rise a couple of percent when the news sounds unremittingly bad, solely on the basis that tomorrow will likely be better, or that really, really bad news will force Central Banks to give up on monetary tightening – thus making bad news into good news.

Market sentiment is up and down like a see-saw. When senior bankers, like Jamie Dimon of JP Morgan, are telling their banks' largest clients they see a greater than 20% likelihood of something worse than a hard recession – then maybe it’s time to check your hard hat is a snug fit.

For the last few months, the tone of markets has become more and more confusing. Whether the driver of uncertainty is China, Russia, inflation, war, Ukraine, energy or simple political or central banking ineptitude – the up and down of prices feels like it is making less and less sense by the day. The thing is – these are all known unknowns, things we are aware of, and have worked out how they will hurt us.

As a humble market strategist, I continue to pick the information together to discern probable outcomes. Whether it is raw data, reading through behaviours or seeing patterns in events, there is plenty of information out there – often too much. I try to interpret it and use it to discern what markets might be doing. (The key is to understand markets don’t think – they are just a voting machine.)

But the thing that really knocks-out markets are the no-see-ums – like the pandemic or the energy spike that has routed European economies.

Recently, I was looking at Risk On/Risk Off scenarios and came to the conclusion that US Treasuries will remain the core risk mitigation strategy. What could possibly undermine the mighty dollar?

Chips have become a key strategic resource. No one wants a destructive, costly war over Taiwan, or to wreck the global chip supply.

But then I also figured out the role of the humble computer chip in the global economic picture. Such a small thing could trigger a geopolitical crisis.

Perversely, the global chip business seems to be in short-term trouble. Investors are focused on declining demand for chips as post-pandemic shortages ease, and the rapidly escalating costs of new chip foundries required to make new ones threaten to overwhelm the market. Even as some of the major manufacturers have seen their stock price tumble, global demand for chips is set to double in the next decade – hence the need for greater investment.

On the other hand, semi-conductors (to give chips their proper name) are about the most important component of the global economy. Without chips… nothing works. We would go back to the horse and cart. The imperative from Washington to Beijing is to secure their access to chips.

Chips have become a critical strategic good – and that means they have become a key issue in the geopolitical Game of Thrones being played in the South China Seas.

Here are some points relating to semi-conductors to think about. Chips are ubiquitous:

• The US has just approved a $53 billion bill to boost semi-conductor R&D – President Biden promises it will cut costs and create jobs.
• China has just revealed a state investigation into how money has been siphoned off from a $100 billion state effort to build and upgrade its semi-conductor sector as part of its $3 trillion plan to move China into the top league of global tech.
• Chinese chips are still a generation behind.
• It takes 3-4 years to build a new chip foundry – there are critical machines to source and install.
• It takes far longer to acquire the expertise to run it and produce top-end designs.
• Taiwan produces over 65% of the global chip supply. It has a monopoly on producing the most complex chips.
• Both the US and China are heavily reliant on Taiwan-manufactured chips.
• Nancy Pelosi’s most important meeting last month wasn’t with the Taiwan president, but with the mighty Taiwan Semi-Conductor Manufacturing Company (TSMC) – trying to persuade them to expedite the establishment of US production sites.
• Sophisticated modern weapons rely on chips. US and NATO stockpiles are being run down to supply Ukraine. China stockpiles remain intact. Raytheon recently reopened the Stinger production line – but could take years to deliver 1200 new missiles to an old design.
• Wargames modelling a Taiwan invasion and US intervention suggest a war could cost the US Navy and Air Force over 900 aircraft (half the US inventory) and the bulk of the Pacific Fleet. The Chinese would not win and would see their amphibious forces destroyed.

Chips have become a key strategic resource. No one wants a destructive, costly war over Taiwan, or to wreck the global chip supply. The Chinese have enough on their economic plate – property fallout, the domestic loan market, youth unemployment, plus the ongoing damage of COVID restrictions to contend with. The conflict would simply exacerbate their economic weakness ahead of critical party meetings.

But… If China wanted to inflict economic self-harm by inviting Western Sanctions and lost manufacturing orders, then they could.

The Chinese don’t actually need to invade to thoroughly destabilise the West. All they would need to do is institute a blockade of Taiwan. The West would not be certain of global support against such a move. If the Chinese frame it as domestic police action, the same countries that failed to rally against Russia’s invasion of Ukraine – critically the Gulf States – may decide to withhold support and wait and see how it plays out.

A global shortage of chips will swiftly impact the West’s manufacturing capabilities, closing down the auto sector and causing chip rationing towards defence spending. It would be dangerous – a blockade would raise the likelihood of mistakes, miscalculations and raise the risk of confrontation turning a cold war hot.

Sprinkle in some more confusion – like a new Trump administration likely to unravel the Western Democratic Alliance and break NATO. Trump had his successes, but his first presidency was an unmitigated disaster in terms of America’s international standing and relationships. He offended US allies and diminished the reputation of the Bastion of Democracy as a reliable partner. Should Trump’s new MAGA republicans win the mid-terms it will further change the signals – perhaps encouraging China to take a risk on Taiwan’s chips…

Official figures by the Office for National Statistics (ONS) show that GDP dropped 0.1% during the three months to the end of June, a significant step down from the first quarter of the year when GDP increased by 0.8%. In June, GDP was down 0.6%. 

The ONS reported that the country’s service sector was hit particularly hard, falling 0.4% over the quarter. 

In a comment, ONS director of economic statistics Darren Morgan said, “With May’s growth revised down a little and June showing a notable fall, overall the economy shrank slightly in the second quarter.”

“Health was the biggest reason the economy contracted as both the test and trace and vaccine programmes were wound down, while many retailers also had a tough quarter.

“These were partially offset by growth in hotels, bars, hairdressers and outdoor events across the quarter, partly as a result of people celebrating the Platinum Jubilee.”

The Bank of England has warned that the UK may enter into a recession later in 2022 and believes this could be the longest economic downturn since the financial crisis of 2008.

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The news comes not long after the Federal Reserve upped interest rates by three-quarters of a percentage point to a range of 2.25%-2.50% in a bid to curb growth and ease price pressures.

Despite the report, Federal Reserve Chair Jerome Powell thus far maintains the view that an economy that is adding hundreds of thousands of jobs per month is not experiencing a recession. Over the past months, Powell has vowed to take action against record-high inflation. 

"We do want to see demand running below potential for a sustained period to create slack and give inflation a chance to come down," Powell commented on Wednesday. 

"It's also worth noting that these rate hikes have been large and they've come quickly, and it’s likely that their full effect has not been felt by the economy. So there’s probably some additional tightening - significant additional tightening in the pipeline."

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In June, Federal Reserve officials highlighted the need to tackle inflation, even if it came at the cost of slowing the economy amid the looming threat of recession. They said that the US central bank’s July meeting would likely see another 50 or 75 basis point move on top of a 75 basis point increase that was approved in June. 

“In discussing potential policy actions at upcoming meetings, participants continued to anticipate that ongoing increases in the target range for the federal funds rate would be appropriate to achieve the Committee's objectives,” the minutes read.

“In particular, participants judged that an increase of 50 or 75 basis points would likely be appropriate at the next meeting. Participants concurred that the economic outlook warranted moving to a restrictive stance of policy, and they recognised the possibility that an even more restrictive stance could be appropriate if elevated inflation pressures were to persist.”

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