GBP: A hike in name only
The Bank of England raised rates yesterday for the first time in 10 years to 0.5% and more importantly guided that whilst this rate rise was not a ‘one-and-done’ rates in the United Kingdom may have to rise to control inflation over the Bank’s forecast period. They still see inflation in the UK above their target of 2% in 2020 even with a couple of additional rate hikes priced into their forecasts.
Sterling fell on the announcement however as markets took notice of some rather dovish pronouncements within the decision minutes. Dropping the line that “rates may need to rise more than the market expects” is not a supportive move for rate expectations in the future and alongside a slight weakening of inflation forecasts and the opinion that ‘the decision to leave the European Union…already having a noticeable impact on the economic outlook’ means that this is about the least committed hike we could have seen.
Short sterling markets reacted by pushing their expectation of when the next hike would come from June 2018 to September 2018.
GBP: What does this mean going forward?
“Brexit remains the biggest determinant for the UK’s economic outlook” according to Governor Carney and as such, we are no closer to knowing when the next rate move will come nor what direction it will come in. As we have said, some markets are now looking for a rate rise in September 2018 but decisions are now extremely data dependent and although inflation may dip from the highs seen in recent months, it will be difficult for markets to completely disregard what the Bank of England has hinted at today.
In the short term, GBP will be a bit of a pinball and the upcoming Budget – which is typically not a market event – is the next major macro hurdle for it to jump over. If the data remains roughly ‘as is’ then we expect sterling to remain supported. Political news is political news and I defy anyone to tell me how the next round of Brexit negotiations will go with any certainty so the trend of overall pessimism that has so far characterised the pound’s reaction will continue. If the MPC set out to put some 2 way risk into sterling with this decision then you’d have to say that it’s worked in the short term.
USD: Tax plan launches, Powell announced, jobs results due
The Republican tax plan was unveiled yesterday with the full backing of the Trump White House. While the President may be in favour, it has to be voted on by both the House and the Senate and certain provisions within the plan make it fairly certain that the bill as it looks now will not be the bill that is eventually signed into law.
Subsidies to the energy and pharmaceutical sector are set to be cut and retail industry members are likely to be unhappy with changes to international tax as they were to the ill-fated border adjustment tax issue floated earlier this year. Economists much closer to the issue than myself also believe that somewhere north of $3 trillion of spending cuts will be needed to make sure the deficit doesn’t explode due to the cut to government income.
Of course, one of the reasons why Trump the candidate was so popular was his pledge to ‘drain the swamp’ and put the power back into the hands of the people. Should his tax plan fall to lobby groups bent on securing tax breaks for their representative industry there is no doubt that Trump will see this as an opportunity to roll out some campaign language and secure his grip on the base once again.
The dollar’s role in all of this is unclear at the moment but little movement came from the announcement of Jerome Powell as the new Federal Reserve Chair. We expect his nomination to pass without a hitch.
Today’s US jobs report should show an economy that is returning to work following an active hurricane season. A figure north of 300,000 would go some way to securing the USD higher for the week as President Trump begins a tour of Asia today.
Have a great day and a better weekend.
Jeremy Cook, Chief Economist