UK Economic Growth Grinds To A halt
Sterling slipped again today, following a fall in 2nd Quarter GDP to 0%. Many market participants say this was unexpected. That expectation, is inconsistent with economic reality because market consensus is that there was stockpiling in the First Quarter (in anticipation of the 31st March Brexit deadline) which caused GDP to rise to 0.5%. The overall trend in the data (industrial growth, manufacturing and investment) was down.
From that perspective, the the 0% reading in GDP becomes much more obvious. It is important to pay attention to the whole picture that the economic data paints.
The recent sharp moves in global markets have, at least for now, taken some attention away from Brexit. Nevertheless, stories continue to circulate about the likely outcome in the autumn. Media reports suggest that a vote of ‘no confidence’ in the Government may be called as soon as Parliament returns from its summer recess in early September. However, it has also been suggested that if the Government lost the vote it would attempt to delay a General Election until after the Brexit deadline of 31st October. The UK has a busy economic data calendar next week. Tuesday’s labour report is forecast to show more evidence of a tight labour market with the unemployment rate for the three months to June holding at its multi-decade low of 3.8%. Meanwhile, wage growth is expected to have continued to pick up with regular pay growth up to a near 11-year high of 3.8%. However, it is likely that the annual rate of CPI annual will have slipped back below target to 1.9% in July (from 2.0% in June). Meanwhile, the ‘core’ rate is forecast to be unchanged from June at 1.8% (Wed). Finally after a surprisingly strong rise in June retail sales, it may have fallen by 0.3% in July. Overall that set of data would be consistent with the Bank of England policymaker’s message that UK interest rates will be on hold until a number of uncertainties are resolved. That includes not only Brexit but also the extent of the ongoing slowdown in global economic growth. The continued rise in wage growth is an indication that domestic inflationary pressures still need to be closely monitored, and is one reason why we still expect the next move in UK rates to be upward. But that will probably not happen until economic growth is on a firm foundation, which points to a hike being delayed until at least the second half of next year.
The focus in markets over the past week has been on the fallout from the latest escalation in trade tensions between the US and China. Following last week’s US announcement of a 10% tariff on an additional $300bn of imports from China from 1 September, the Chinese retaliated by halting state purchases of US agricultural products and seemingly signalled an intention to weaken the yuan. That led the US Treasury to brand China a ‘currency manipulator’. There has been some attempt to defuse the situation. China has said it will not use the exchange rate as a policy tool and both sides have confirmed that they intend to hold further trade talks in September. But clearly the position remains tense. The initial market response was a big slide in global equity prices reflecting growing concerns about a growing risk of recession. Meanwhile, government bond yields have plummeted as markets price in a likelihood of further cuts in interest rates by central banks around the world. Larger-than-expected rate reductions in New Zealand and India helped fuel that view. A rebound in equities in the second half of the week suggested that sentiment may be stabilising but markets have wobbled again on Friday. There are clearly risks of further marked moves particularly as trading volumes are lighter than usual during the holiday period. The outlook for US Fed policy is being watched particularly closely. Markets now think that a second successive cut in US interest rates at the Fed’s September policy meeting is a virtual certainty and that a 50 basis points reduction is a significant possibility. Moreover, a cumulative 100bp decrease is priced in for the next twelve months as a whole. Most Fed policymakers who have commented on recent developments have been reluctant to go beyond saying they are monitoring the situation. So far Fed Chair Powell has not provided an updated view since his post July FOMC comments, when he played down the likelihood of significant rate cuts. We may need to wait until the Fed’s Jackson Hole symposium on 23-24 August to hear again from him.
This week’s market moves have taken place against a background of very little new economic data. In contrast, the calendar for the week ahead is busier. The US July CPI report(Tue) is forecast to show a modest rise in annual headline inflation to 1.7% from 1.6% in June, while the ‘core’ rate is forecast to hold at 2.1%. Meanwhile, retail sales for July (Thu) are expected to post a rise of 0.3% consistent with consumer spending continuing to support GDP growth in Q3. July industrial production (Thu) is also predicted to have grown, as are housing starts (Fri), Overall the data is not expected to provide strong support for a Fed rate cut in September. However, that might have little immediate impact on the market’s rate expectations.
In the Eurozone, the first estimate of German Q2 GDP growth is expected to show a decline, led by an ongoing slump in manufacturing. That would be consistent with already released data for the Eurozone as a whole which showed only a modest GDP rise of 0.2% in Q2. That is not expected to be revised in Wednesday’s second estimate. A more up-to-date gauge of the Eurozone economy will be provided by the August ZEW survey. However, while timely the survey does not have a particularly good record as a predictor of activity. The consensus expectation is that both the current situation and expectations readings will have fallen further.
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