What the rising cost of bread means for interest rates

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The markets are waiting with bated breath for the release of minutes from this month’s interest-rate setting meeting later this week.

The decision by the Bank of England’s Monetary Policy Committee to hike rates is unlikely to have rested on a knife-edge – but the main focus will be on how likely the MPC is to raise again.

The quarterly inflation report released last week – and Mervyn King’s hawkish tone – suggested strongly that rates will be 5% by the end of the year.

And the latest inflation data suggests that even that could be too low…

Manufacturers are continuing to push the rising cost of raw materials through to customers. The latest batch of producer price inflation data showed that UK factories raised prices for the seventh month in a row in July.

Output prices are up 2.8% on last year. That’s down from an annual increase of 3.4% in June, but that was largely because inflation rose strongly in July last year too. Raw materials prices rose by 9.6% in July, down from 11.5% the previous month.

As Alan Clarke at BNP Paribas told Bloomberg: ‘Output prices have been rising steadily as manufacturers are able to pass on higher costs. This could feed through to consumer price inflation.’

This is the Bank’s main worry – that rising cost prices will start showing up in prices on the high street, and people will start demanding higher wages to pay for it all.

The Bank’s fears may be well-founded. Although official statistics still show annual wage inflation standing at less than 4%, a survey of recruiters earlier this month found that wage growth had accelerated to its fastest rate in more than a year.

Certainly, the Bank will unnerved to find out that the price of one of the most basic consumer staples – bread – is about to rise.

Hovis and Mother’s Pride maker RHM, which bakes around a third of the UK’s bread, is hiking prices by more than 4p a loaf due to rising energy and flour costs.

The move comes as two of the UK’s biggest millers, Rank Hovis and ADM Milling, said they will raise the cost of flour from September because their own energy and raw material prices are also rising.

Rank Hovis is actually owned by RHM, while ADM Milling is owned by US food giant Archer Daniels. Between them, the two companies produce about half of the UK’s flour. ADM said energy prices have risen 30% and wheat prices by 15% in the past nine months.

Wheat prices have been heading higher, due to dry weather, which has sent wheat stocks to 25-year lows. According to ADM, Ukraine, Russia and North America have all seen lower-than-usual harvests due to drought.

(Those interested in investing in soft commodities may be pricking up their ears at all this talk of rising grain prices. We wrote about the sector in MoneyWeek earlier this month – subscribers can read more by clicking here: Why soft commodities are booming

The big supermarkets haven’t said how they will react to the price rises. But it’s yet another bit of pricing pressure that they may find difficult to absorb completely, as they face their own rising energy and wage costs.

Suffice to say, a 5% interest rate by Christmas looks more and more likely.

Turning to the stock markets…


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The FTSE 100 was boosted yesterday afternoon by a strong start on Wall Street, building on earlier gains to end the day 51 points higher at 5,870. The best performer was fund manager Schroders, which was targeted by bargain hunters after its share price fell 10% on Friday. British Airways was also among the risers following the news that airport restrictions were to be eased now that the terrorist threat has been downgraded. The biggest faller was online betting company Partygaming, as investors expressed their unease ahead of the bail hearing of former BetonSports exec David Carruthers. And among the mid-caps, builder Interserve tumbled over 21% as the company was forced to revalue its assets on the discovery of accounting errors. For a full market report, see: London market close (/file/16796/london-close-top-stocks-end-with-strong-gains.html)

In Europe, shares were also pushed higher by the rally on Wall Street. The Paris Cac-40 closed up 61 points at 5,046, although trading was light ahead of today’s holiday. The German Dax was also up 19 points to 5,677.

Across the Atlantic, the ceasefire in the Middle East and falling oil price saw stocks rally, with the Dow Jones jumping 100 points in morning trade. However, continuing concerns over the economic outlook saw stocks slip back to close only slightly higher. The Dow Jones closed 9 points up at 11,097. The Nasdaq was 11 points higher at 2,069 and the S&P 500 was up 1 point to 1,268.

In Asia, the Nikkei was down 40 points at 15,816, as energy stocks slipped on the falling price of oil.

The continuing truce between Israel and Hezbollah saw the price of oil fall further. Crude was trading at $73.22 a barrel in New York this morning, whilst brent spot was at $74.11 in London.

After plunging to $623.50 an ounce yesterday, spot gold recovered somewhat and was trading at $626.75 in New York this morning.

And in London, British Airways announced that it may seek compensation from airports operator BAA over delays and disruption to flights caused by problems with implementing heightened security procedures. In other news, property services company Countrywide reported an 18-fold rise in profits, £62.8m compared to £3.5m last year. The increase has been attributed to the sale of assets including Rightmove.

And our two recommended articles for today…

Good news for gold bugs
– As the gold price continues to consolidate above $600/oz, one Australian gold miner is already anticipating a surge above $1000 and has decided to close its hedge book. To find out what this move will mean for the price of gold – and which gold-based investments will benefit the most – read:
Good news for gold bugs

After Doha: what is the future of world trade?
The Doha round of talks on trade liberalisation was abandoned recently amid squabbles over subsidies and other vested interests. But this doesn’t mean the end of cross-border trade, or the death of globalisation, says Morgan Stanley economist Stephen Roach. Global trade may have become more politicised in recent years, but it continues to go from strength to strength. To find out what the next developments will be, and where the divisions will lie, see: After Doha: what is the future of world trade?


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