Somewhat counterintuitively, cable hit a one-month low on Friday after UK GDP improved, although in line with expectations. It appears that traders are assessing that the shifts in central bank outlooks, particularly BOE easing, are leaving the pound at a disadvantage. Over the next couple of days, we get a barrage of UK data that could clarify if the weakness in sterling is justified.
Friday’s data release was also a bit of unfortunate timing for cable, since it came after US CPI was stronger than anticipated. That trimmed back projections for Fed cuts. Then the modest GDP figure in the UK was seen as leaving the door wide open for a rate cut at the coming meeting. Markets are pricing in over a 90% chance of one more rate cut this year (so, a cut and then a hold). There is an additional 40% chance priced in for two rate cuts, one each for the meetings left to go.
Why the Shift Around the Pound?
The slight increase in UK GDP came after two months of no growth, and markets do not seem to believe it is starting a new trend. That means that after a relatively strong growth spurt at the start of the year, the British economy is set to essentially remain flat in the second half. Analysts point to general uncertainty among both consumers and businesses, who are holding back on spending. One of the issues holding back demand is related to the upcoming Budget, with talk of increased fiscal spending and taxes. But, that will likely be resolved with the announcement at the end of the month.
Without a firmly growing economy, BOE Governor Andrew Bailey’s comments from a couple of weeks ago come to mind. He mentioned that the bank could become more aggressive in easing if inflation were to ease. While a somewhat obvious statement, the upcoming CPI figures on Wednesday could show whether or not there is a case for more BOE easing.
The Data’s Different Views
First is the release of UK labor data on Tuesday, which is expected to show a slightly stronger situation, perhaps in contravention to the inflation data. This could be important, because analysts keep pointing out that there are two sources of continued inflationary pressure: First, wages rising at a rate faster than consumer prices. And second, those higher wages contributing to increased prices in the services sector.
The consensus is that the unemployment rate in the UK will remain unchanged at 4.1%. A similar situation is expected for average earnings (including bonuses) which is expected to stay at 4.0%. An unexpected uptick in these numbers could get markets reevaluating their expectations for rate cuts. On the other hand, a miss would simply be further confirmation of what is seen as the trend.
Prices Back in Line
On Wednesday, it’s expected that the ONS will report that consumer prices in the UK for September grew at 2.0% compared to 2.2% in the prior month. That would bring it back to the target rate. What keeps this from opening the floodgates for easing is that the core rate is expected to keep its leisurely trend lower to 3.5% from 3.6% a month ago.
Inflation returning to target is significant, because the thought was that consumer prices would remain elevated through the rest of the year. If inflation keeps coming in below the BOE’s projections, then it’s logical to assume an adjustment in the pace of rate cuts.
