Gordon Brown gets out in the nick of time

The new PM is now ex-chancellor, just as the signs that interest rate hikes are starting to seriously squeeze the UK consumer are arriving thick and fast. John Stepek reports on the problems piling up for his successor.

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It was Gordon Brown's coronation yesterday. And not a moment too soon.

The new Prime Minister is now ex-chancellor, just as the signs that interest rate hikes are starting to seriously squeeze the UK consumer are arriving thick and fast.

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The Confederation of British Industry reported that its latest retail sales survey had shown a sharp fall in sales, to the lowest level since November. "This survey shows consumers are reining in their spending in response to higher borrowing costs," said the CBI's John Longworth.

The week before, both Tesco and Sainsbury's issued lukewarm trading updates. We've also seen downbeat news from car dealer Pendragon and carpet chain Carpetright.

We bet Mr Brown's successor can't wait to take his place at The Treasury

It's not just the consumer that's being squeezed by rising interest rates. Mortgage bank Northern Rock's share price fell by 12% yesterday as it warned profits would come in below forecasts. As the FT reports: 'the bank failed to anticipate rising interest rates' which have driven up its costs for funding mortgages.

The warning was due to the way the bank funds its lending, rather than any weakness on the consumer side, but if lenders feel the pain in their profit margins, then they'll just make it more costly for homebuyers and remortgagers to take out new loans. It's already becoming harder to get a decent fixed rate without having to pay stratospheric arrangement fees (Merryn's got more on this in the latest issue of MoneyWeek, out tomorrow). The fear spread to other banks in the sector, with rivals such as HBOS and Bradford & Bingley also losing ground.

We've seen a slowdown like this before, back in 2004/5, when rising interest rates were starting to make an impact on consumer spending. If the Bank of England had stayed the course then, reining in the consumer borrowing spree, we might have seen a soft landing - or rather, a less hard landing than we're likely to see now.

Will the Bank maintain the course this time? Certainly, it won't give up without a fight, if deputy governor Sir John Gieve has anything to do with it. Earlier this week, he explained his reasons behind voting to raise rates at the last meeting of the Monetary Policy Committee (at which the vote was 5-4 to hold rates).

Unsurprisingly, he's worried that the current rate of credit growth is unsustainable. But he also argued that the Bank is in danger of having its inflation-fighting credentials questioned. "I felt that the impact of moving too slowly on the credibility of the regime and thus the future prospects for the economy was of greater concern." He agreed there was a risk that rates might rise too fast, but also warned that "we may raise rates too slowly with a cost in higher inflation and potentially higher interest rates and a sharper slowdown in the end."

But it's not just the UK that's feeling the credit squeeze. Ominous signs are piling up for the global economy as a whole. We'll look at these in more detail in tomorrow's Money Morning, but among the danger signs the FT points to are a 1% rise in the value of the yen over the past week (which could hammer carry traders - see yesterday's Money Morning for more detail: Why does everyone hate the yen?), and growing difficulty for private equity and companies to raise funding through bond issues as investor risk aversion grows.

Our weekly stock-tipper Paul Hill (who in case you missed it - last week suggested that MoneyWeek readers take profits of more than 600% on a stock he tipped just under a year ago) fully expects there to be a major correction in world stock markets this summer you can read his recent cover story on it here: How to prepare for a market crash. Unsurprisingly, he's not a big fan of consumer stocks, either.

Paul also runs his own investment email service, which has also proved very successful. I think you'll be very interested to hear the details - more on this tomorrow.

By the way you'll no doubt be aware that we have a postal strike this Friday, so unfortunately that means subscribers will be receiving their copies of MoneyWeek late this week. We're sorry about this subscribers can access a PDF of the latest issue (as always) on Friday morning on our website here: Latest Issue.

Turning to the wider markets

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In London, mortgage lenders weighed on the blue-chip FTSE 100 yesterday, dragging it down 31 points to a close of 6,527. Northern Rock tumbled nearly 12% after it announced that full-year profits were unlikely to match expectations. Peers including Alliance & Leicester and HBOS were also lower. However, it was a good day for defensive pharma stocks inclusing AstraZeneca and GlaxoSmithKline. For a full market report, see: London market close.

On the Continent, the Paris CAC-40 closed down 11 points, at 5,941, whilst the Frankfurt DAX-30 was down 59 points to 7,780.

Across the Atlantic, US stocks rallied yesterday. The Dow Jones closed 90 points higher, at 13,427. The tech-heavy Nasdaq was 31 points higher, at 2,605. And the broader S&P 500 was 13 points higher, at 1,506.

In Asia, investors were cheered by Wednesday's advance on Wall Street. Japan's Nikkei 225 added 82 points to end the session at 17,932 and the Hang Seng was 240 points higher, at 21,946.

Crude oil had risen to $69.19 this morning and Brent spot was trading at $71.32.

Spot gold had climbed to $644.60 in Asia trading and silver was also higher, at $12.34. For in-depth coverage of the latest developments in the gold market, see our London gold market report: Investing in gold.

Turning to the foreign exchange markets, the pound was at 2.0019 against the dollar and 1.4877 against the euro this morning, whilst the dollar was at 0.7429 against the euro and 123.07 against the Japanese yen.

And in London this morning, a survey by Nationwide revealed that house prices rose at their fastest rate since December this month, raising expectations of an interest rate hike next week. The average cost of a home is now £184,070, a 1.1% increase since May.

And our two recommended articles for today...

It's decision time for global markets

- The bullish resolve of the world's major stock markets has begun to weaken and the cracks are really starting show in some asset classes. It's time to prepare your portfolio. For more on what recent developments in the bond market, property market and Chinese stockmarket mean for your investments, read: It's decision time for global markets

29 ways to pay less tax

- As Gordon Brown vacates his post at the Treasury, it's hard to find anyone who thinks that he has made them better off during his time there. But there are ways to protect your cash, as we revealed in this MoneyWeek article, now available to non-subscribers. To find out how you could reduce your tax bill, click here: 29 ways to pay less tax

If you have any comments about this piece, please email editor@moneyweek.com

John Stepek

John is the executive editor of MoneyWeek and writes our daily investment email, Money Morning. John graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.

He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news. John joined MoneyWeek in 2005.

His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.