AI, NATO, US GDP and FPC Review in Focus

This afternoon will see the release of US GDP for Q4 2022, where the general market consensus is expecting to see a print of 2.7% on an annualised basis. This latest estimate of US GDP Growth follows an earlier estimate in January which indicated that the US economy grew 2.9% on an annualised basis in Q4. This beat expectations of 2.6% and helped markets build confidence in the notion of the US economy having a ‘soft-landing’. Here, the re-filling of inventories helped push up business demand, though fixed investment reduced 6.7% as businesses grappled with economic uncertainty and rising costs.

 On a longer-term view, at the back end of 2022, the OECD estimated that real GDP is projected to grow by 1.8% in 2022, 0.5% in 2023 and 1.0% in 2024, though many organisations have upwardly revised these figures in recent months.

Yesterday, the Financial Policy Committee released their Financial Policy Summary and Record which seeks to identify risks to the financial stability of the UK economy. The review highlighted how instability in the global banking sector was increasing investor caution, though stated that existing regulations for banks in the UK mean that they “have significant financial resources to absorb shocks.” The review reiterated that steps taken to improve regulatory standards in relation to banks’ capital and liquidity would mean that the banking system was in a better position to weather storms.

The report also highlighted how the severe stress in liability-driven investment (LDI) funds in autumn 2022 had revealed how some financial institutions need to increase their resilience to interest rate shocks. Here, the FPC recommended that LDI funds should be able to “withstand severe but plausible stresses in the gilt market; meet margin and collateral calls without engaging in asset sales that could trigger feedback loops; and improve their operational processes to meet margin and collateral calls swiftly when needed.” The FPC thus judged that LDI funds should be resilient, at minimum, to a shock of a 250bps. It was following Kwasi Kwarteng’s disastrous mini-budget that yields on 10-year government gilts rose from 3.5% to 4.3% in the space of one session as willingness to own debt waned, driving up the price of borrowing. Hence, as the LDI ecosystem comes under scrutiny, the Bank of England will be keeping a close eye on the market given its implications on the wider economy.