By Samer Hasn
The pound is trading relatively steady against the US dollar with gains of around 0.05% this morning after hitting a one-month low yesterday.
The limited movement in the pound comes after mixed figures from the UK economy for August. While the data did not provide a positive surprise that could revive the pound’s upward momentum, it does suggest that the economy remains stable despite the relatively high-interest rate environment.
In monthly readings, GDP grew by 0.2% in August, in line with expectations. The construction, industrial production and manufacturing sectors reversed previous contractions to better-than-expected growth, with the exception of construction, which grew less than expected. Meanwhile, services growth slowed faster than expected from 0.4% to 0.1%.
The annual readings were more mixed, with GDP growing by less than expected from 0.9% to 1.0%. Industrial production also contracted faster than expected, while construction unexpectedly grew and manufacturing output contracted less than expected.
The return of the economy to growth, albeit not at the same pace as seen particularly in the first quarter, should give the Bank of England comfort if it decides to return to its cautious approach to cutting interest rates, especially as upside risks to inflation return to the forefront.
The rise in default rates in the third quarter was less than expected after the second quarter, according to the Bank of England’s Credit Conditions Survey published yesterday, which should also reinforce the previous narrative, as this may reflect the financial stability of the economy.
These upside risks to inflation are coming particularly from the Middle East amid concerns about the possibility of energy prices rising again if the regional war escalates. The targeting of Iranian oil facilities by Israel and the retaliation could disrupt supplies from the region. While this escalation could expand to harm the interests of other oil-exporting countries in the region, according to The Washington Post.
However, in light of what Axios reported yesterday, quoting American and Israeli officials, the United States has become less concerned about the step that the Israeli side will take and that the gaps between the two allies have narrowed regarding the timing and scope of the response that might come soon. While the US was concerned about the possibility of targeting Iranian oil and nuclear facilities for fear that the escalation would get out of control and lead to a resurgence of inflation coinciding with the start of the presidential elections next month.
Despite all this, it is still expected that the Bank of England will cut rates by 25 basis points at its November meeting, especially after Andrew Bailey spoke to the Guardian last week about the possibility of taking a more aggressive approach to the cut. The Wall Street Journal also reported in the same week that the change in the position of the Bank’s chief economist Huw Pill and his support for cutting interest rates, after he had voted against the last cut, would enhance the possibility of a cut in November.
Elsewhere in the US, yesterday’s surprise readings in the Consumer Price Index (CPI) reinforced the assumption that the Fed will not cut interest rates by more than half a percentage point by the end of this year. The Fed is expected to make two 25 basis point cuts at each of the upcoming meetings in November and December with a probability of more than 80%, according to the CME FedWatch Tool.
I believe that this decline in previous optimistic expectations about a rapid pace of rate cuts by the Fed, especially after the large cut in September, in addition to the strengthening of the US dollar’s status as a safe haven amid rising geopolitical tensions, will put further pressure on the pound to decline.
- Hasn is Senior Market Analyst at XS.com
