Daily Market Report - 13/06/2022
Sterling falls as UK economy shrinks by 0.3% in April
As we enter into a new week, with the Fed and BoE interest rate decisions looming and a significant number of macro-economic data releases due, I thought a brief update would be useful.
Fed Meeting – Wednesday
The US Federal Reserve will hike interest rates once more on Wednesday, with Fed head Jerome Powell and other policymakers indicating that half-point rate hikes are expected in both June and July. Following a quarter-point hike in March, the Fed raised its benchmark interest rate by 50 basis points to a range of 0.75% to 1% last month.
Several Fed policymakers have stated that they want the Fed funds rate to be in "neutral" territory by the end of the year, i.e., a level that neither supports nor restrains inflation. The president of the Kansas City Fed, Esther George, has suggested that a neutral rate of roughly 2.5 percent could be a good starting point. However, St. Louis Fed president James Bullard, who had earlier this year predicted that rates would climb to 3.5 percent by the end of the year, has set the neutral rate at 2%. Raphael Bostic, President of the Atlanta Fed, has proposed that a neutral rate may be between 2% and 2.5 percent, as well as a rate hike pause in September.
BoE Meeting – Thursday
Since December, the Bank of England has raised interest rates at each of its four previous meetings. The Bank's nine-member Monetary Policy Committee (MPC) hiked rates by a quarter of a percentage point to 1% at their most recent meeting in May, in their latest attempt to cool rising prices.
With headline inflation at 9% and increasing, it's difficult to see the MPC voting against a 25-basis-point hike when they meet on Thursday, especially because three external MPC members – Jonathan Haskel, Catherine Mann, and Michael Saunders – wanted to raise rates by 50 basis points in May.
Given that the rate hike in May did not go as far as these three members had hoped, we may expect them to vote for another rate hike on Thursday. This means that another rate hike will only be imposed if two additional members agree with them. The main question is whether the MPC would follow their Federal Reserve counterparts in downplaying inflation expectations, which have become substantially more hawkish in recent weeks.
UK GDP Data and Effect on the Pound
GDP declined by 0.3% in April, adding to the 0.1% drop in March -- with services, production and construction all shrinking in April.
The Office for National Statistics reports that the reduction in NHS Test and Trace activity weighed on the economy, while supply chain problems hit factories.
The ONS says:
• Services fell by 0.3% in April 2022 and these were the main contributors to April’s fall in GDP, reflecting a large decrease (5.6%) in human health and social work, where there was a significant reduction in NHS Test and Trace activity.
• Production fell by 0.6% in April 2022, driven by a fall in manufacturing of 1.0% on the month, as businesses continue to report the impact of price increases and supply chain shortages.
• Construction also fell by 0.4% in April 2022, following strong growth in March 2022 when there was significant repair and maintenance activity following the storms experienced in the latter half of February 2022.
• This is the first time that all main sectors have contributed negatively to a monthly GDP estimate since January 2021.
The Pound to Dollar rate fell sharply in the closing session of the week, with many currencies under pressure after official data indicated that U.S. inflation rose faster than expected in May, defying market expectations and potentially affecting Federal Reserve (Fed) policy. Following the London close on Friday, Sterling plummeted quickly and was trading near the round figure of 1.23 against the Dollar, as many currencies made a hasty retreat from the soaring dollar after the Bureau of Labor Statistics reported that inflation climbed to 8.6% last month.
GBP/EUR has fallen to 1.1690 following the GDP figures this morning, down 0.2% from open. Following the ECB meeting last week it was made aware that they had cut the GDP forecast for the eurozone to 2.8% for 2022 and this saw the Euro lose ground against most of its peers, including Sterling and we saw GBP/EUR go to a weekly high of 1.1772. These gains were quickly diminished this morning following the ONS GDP data release.