UK Normalization Means GBPUSD Going Up?

UK Normalization Means GBPUSD Going Up?
Tomorrow is the release of key economic figures from the UK which is expected to show a continuation of the diverging trend in the data lately. While the economy has shown to be improving, the inflation case seems to be improving. That could mean that the UK is finally breaking out of stagflation and on course to normalize.

The idea was that as inflation came under control, the BOE would look to pare back rates. But as the economy seems to be starting to rebound after last year’s shallow recession, the pound has been doing better. Particularly considering that the UK appears to be better positioned than other countries in Europe. And with the BOE seen cutting later than the ECB, the pound could be the winner. Unless something happens unexpectedly with the Fed.

What the Data Says

The UK will report monthly GDP figures for February on Friday. The expectation is that it will confirm the upward trend that was seen in the March PMIs. Although the services sector wasn’t as good as initially expected, it was still well into expansion. And the improvement in the manufacturing sector puts the UK on track to start its rebound this year.

February monthly GDP is expected to show flat growth compared to 0.2% in January. But February often sees less activity than January. More importantly, the rolling three-month average GDP growth rate is expected to pop back into positive to 0.1% from -0.1% reported prior. This would mean the most likely scenario after the improved March PMI figures is that the UK has come out of recession in the first quarter. By how much it will have grown is still yet to be known.

The Other Direction for the Data

While the UK economy slowly picks up the pace, its peers in continental Europe are seen generally stagnating. The underperformance in German and French PMIs suggest that the shared economy might lag behind the UK. And with guilts paying better interest than the bunds, that means investors might be more attracted to the UK, giving the pound more support than the Euro.

The flip side is that the latest inflation indicators have trended lower, with the most recent jobs numbers showing that wages for permanent staff grew at the slowest rate in three years. The pressure from salary growth was seen as one of the main reasons why the BOE was holding off on easing rates in order to support the economy. So, while the GDP figure gives the BOE more room to hold, the inflation scenario is more important and the data suggests that there is a higher chance of the BOE easing soon.

It’s Still a Matter of Timing

While the UK economy is improving, it’s still far behind the growth seen in the US. The latest jobs numbers convinced a lot of traders that the Fed might not start easing until July. That would keep the interest rate gap between the dollar and the pound at the current level for one more month, meaning the GBPUSD could suffer a bit.

But a stronger than expected pickup in the UK economy might bring back worries that inflation is still lurking, and that could be the catalyst needed to support the pound ahead of the next cycle of interest rate decisions.

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