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UK Data Could Signal Winding Down of BOE Hikes

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As the BOE keeps hiking rates, it could be running out of room to keep tightening. Inflation still more than quadruples the target rate despite hiking for over a year. Now the worry is that the tightening can push the UK into a recession. The data coming out over the next couple of days could be an indicator of how much at risk there is of that happening.

If major macro data turns significantly negative, the bet is that the BOE will give up on the fight against inflation in order to prop up the economy. With that in mind, some analysts are expecting the BOE to start cutting rates in the near future. Other, more optimistic analysts suggest the BOE can hold rates high and skirt a mild recession. But some analysts are worrying that the BOE might push rates as high as 7% in order to bring inflation down. And that could lead to a significant impairment to the UK economy.

The pound trajectory

In general, raising rates would be seen as positive for the pound. But the higher the rates go, the more risk there is that they will cause a recession. And a recession would be negative for the pound. Balancing these two factors out has been a tricky game for projecting the reaction in cable to news. Which is why better than anticipated data coming out in the coming weeks might not have as positive an impact, as investors weigh short term against long term risks.

While some analysts are more dramatic in suggesting as much as 200 bps more in hikes, the market is still pricing in just 75bps of hikes this year. Which could happen over the course of two meetings, with another “double” hike now and followed by 25bps in September. That is currently seen as the more hawkish scenario. The other alternative is for three more consecutive quarter-point hikes, and then the BOE holding steady in November. The fluctuations between those two outlooks could drive the pound, as the market considers the upcoming data’s impact on BOE forecasts.

What to look out for

The main issue related to inflation is that it has remained steady over the last two months. The reduction from double digits earlier this year was thanks to base effects. That is, inflation is lower now because of things that happened last year. That’s not a sign that the inflation situation is improving now.

The BOE is particularly worried about higher wages pushing up prices. If labor markets are seen as being too tight, then this could lean on the possibility of a more aggressive BOE. On the other hand, if GDP is worse than expected, it could start firming up an upper limit for the interest rate. The BOE really doesn’t want to be seen as the instigator of a recession.

What the data says

On Tuesday, the UK will release its May unemployment rate, which is expected to tick up marginally to 3.9% from 3.8% prior. While it’s moving in the direction of loosening, the other labor indicator is in the direction of tightening: The June claimant count rate is expected to come in at -22K, below the -13.6K reported in the prior month. That shows fewer people are losing their jobs and are in need of unemployment assistance.

On Thursday, we get monthly UK GDP figures, with May expected to show -0.2% contraction compared to 0.2% in the prior month. The rolling three-month average is therefore expected to come in flat. Being only a hair’s breadth away from negative opens the risk of a negative second quarter and subsequent recession. In that line, manufacturing production data for may is expected to be -0.3%, the same amount as the prior month.

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