Monday Digest

Posted 3 March 2025

Honeymoon ends early

No meaningful recovery for US stocks last week – but a slight warming for European shares. Encouragingly, Keir Starmer’s charm offensive resulted in President Trump saying “tariffs wouldn’t be necessary” for the UK – but Emmanuel Macron’s earlier experience (warm words followed by a 25% EU tariff) shows we shouldn’t get too comfortable.

Investors are no longer excited about Trump 2.0: the tax cuts and deregulation haven’t happened, but tariff threats and government disruption have. US consumers are similarly disillusioned, judging by sentiment surveys and (slight) signs of corporate stress. But we should expect avid stock market watcher Trump to react with economic support, including the $4.5tn tax cut plan outlined by Congress last week.

Worryingly, German Chancellor-in-waiting Friedrich Merz seemed to suggest US-European negotiations are now futile, but European stock valuations actually improved relative to the US. European bullishness is based on domestic improvement, and the need for defence spending amplifies that. The real long-term benefit for Europe would come from genuine policy cohesion, but that requires strong and unified leadership. We will see if Merz can provide that as his coalition attempts to reform Germany’s constitutional debt brake.

It’s notable that capital is now flowing out of the US, and even Nvidia’s stellar profits weren’t enough to stem the tide. We wrote before that this could be related to Trump chipping away at the US-led global order that underlies international finance, and the White House’s restrictive “America First Investment Policy” announced last week doesn’t help.

Now that investors are allocating assets away from the US, you would bet on Trump changing tack. The current market rotation isn’t as pronounced as the one we saw last summer, and US policymakers (both the government and the Fed) have enough manoeuvrability to correct. If they don’t, US exceptionalism will continue to be undermined. In that case, the 100-day honeymoon period for new US presidents could end abruptly.

Higher price caps don’t mean higher prices

Ofgem’s energy price cap will rise 6.4% in April, raising the typical UK household’s energy bill to £1,849 per year. That’s much lower than at the peak of the natural gas crisis, but it does mark a third consecutive quarter of price hikes. This is a concern for the Bank of England (BoE), whose struggle to reach 2% inflation is proving harder than expected.

Ofgem’s price cap limits the rate energy companies can charge rather than overall bills – which is why it’s expressed in terms of the ‘typical’ household. The energy regulator sets it based on wholesale gas prices, for which natural gas is the biggest swing factor.

Gas prices are volatile – down sharply this month but well above levels from a year ago. The interesting thing is that futures contracts for gas are significantly below current prices, suggesting prices will fall over the long-term. That’s why analysts the cap will fall in July – but it could also mean energy companies charging below the upper limit. What’s important is what people are paying, not the official price. Ofgem itself, for example, recommends consumers lock in current rates for the fixed term – and many consumers are doing so.

The 6.4% cap hike isn’t really inflationary if people aren’t paying more (by locking in lower rates or by cutting down usage) and that has implications for how inflation is measured. The price index is supposed to capture aggregate costs, but this based on the going market rate. Ofgem’s price hike will impact that, but measuring how much consumers are out of pocket is harder. We see this another reason the BoE should look through current stated inflation and focus on weak UK growth. The bank will be cautious, but shouldn’t overinterpret a one-off hike.

How will the US budget resolution resolve?

The Republican-controlled US House of Representatives passed Donald Trump’s “big, beautiful” budget resolution bill by the narrowest of margins. This non-binding budget blueprint contains $4.5 trillion in tax cuts (though most of these are extensions of Trump’s ‘temporary’ 2017 tax cuts) and $2tn in spending cuts – with government debt plugging the gap. The Senate is now under pressure approve the same resolution (though they passed their own separate version last week), or else opposition Democrats will be able to stifle the bill’s progress. This has to happen before 14 March, or the US government will face one of its frustratingly common shutdowns.

The bill was touch-and-go; resistance came from both fiscal conservatives worried about excessive debt and moderates worried about punishing spending cuts. The danger for Republicans is that cutting vital public services (like Medicaid health insurance) could upset the populist MAGA base that delivered them power.

We warned before Trump’s inauguration that enacting the disruptive policies before the supportive ones would undermine the economy, and the latest data suggest that is happening. The budget resolution could be a sign that the White House is changing tack in response – though more support will be needed, as most of the tax cuts are just extensions of old measures.

We warned last year that Trump’s tax-cutting plans could worsen the US’ already stretched fiscal position. Fiscal deterioration has felt like a non-issue recently, due to the White House slashing federal spending and the economy starting to weaken in response – but the latest budget reminds us that government borrowing is still a concern. Bond yields have fallen, but that could change, especially if accompanied by the current trend of global central banks selling dollar assets. A sell-off in the world’s biggest bond market is still unlikely, but it’s a risk we have to monitor.