UK Inflation Data: Where Would It Lead The Pound?

UK Inflation Data: Where Would It Lead The Pound?

In the United Kingdom, the Office for National Statistics (ONS) reported an inflation rate of 2.0 per cent in June 2019, flat versus the previous month. The result was in line with broader market expectation and removed the worry for any rate adjustment from the Bank of England’s. However, the data could not offset Brexit pessimism, and the Pound continued to look south. ­

Turbulent Pound

Given the volatile macro situation, the Pound is steadily dropping versus the United States dollar due to the imbroglio over a no-deal Brexit inspired panic selling. The wave is resulting in selling Pound at a price equal to the United States dollar. Earlier the United Kingdom political establishment has voted 432 – 202 against Theresa May’s European Union withdrawal deal, disaster defeat for the United Kingdom government in history. It is dangerous for the United Kingdom economy. The apprehension is, it would affect the import bill of the United Kingdom. It can then lead to increased fiscal deficit and also the purchasing power of the country will fall against the other currencies. Even, it will dent the financial performance of the domestic industries substantially.

Brexit -Background

Brexit is an acronym for, British exit. It refers to a 2016 referendum (52 per cent voted in favour) in the United Kingdom over leaving European Union. However, the retreat is not certain since the United Kingdom economy entwined with that of other European Countries through the European Union. To comply with the wishes of the British masses, it is not possible for the United Kingdom government to exit the European Union in a jiffy. For there is a complex entangled web of financial transactions, travel regulations, trade agreements, immigration and labour rules.

To get past the intricate web, the United Kingdom Government looked at past treaties for help. The Lisbon Treaty came in handy, and its Article 50 gave much needed two years. But the countdown timer is approaching fast on October 31, 2019. This year is important for the United Kingdom, and the deadline date is going to be a pivotal point in the history of the United Kingdom economy as well as the Rest of the World.  The ambiguity and speculation around Brexit have made United Kingdom pound very volatile. So many investors have restricted themselves from trading in the United Kingdom as they are waiting for Brexit to happen.

Brexit – Now What?

More downside is coming in recent times with media speculation that the next Prime Minister is focused on leaving the European Union on October 31, 2019. Media reports suggest that Brexit would happen even if the United Kingdom government had to breach a transition agreement. The agreement is to protect both the European Union and the United Kingdom economies. In the long run, it may create two possible scenarios – leave the European Union with no deal or stick with the European Union. However, more clarity would come on July 22, 2019. On that date the name of United Kingdom’s new Prime Minister would be made public. However, both the two main candidates, Boris Johnson and Jeremy Hunt are speculating in media about an early General Election.

As of now the Brexit issue is in shaky waters, as Member of Parliaments of United Kingdom earlier voted down Theresa May’s by substantial majority. The house had voted 432-202 against May’s European Union withdrawal deal, disaster defeat for a government in British history. The margin of Theresa May’s loss was surprising, but the financial market remained stable. GBP/USD was trading at 1.247 by 11.19 AM GMT, after falling to a two-year three month low of 1.2382 on July 17. Also, at the current trading level, it was quoting considerably below its 200-day simple moving average prices. It indicates that the Pound is in long-term bearish phase and could fall further from the current trading level. However, on the back of better than expected retail sales figures for June 2019, Pound recovered on July 18 and 19.

Any strengthening of the Pound versus the United States Greenback is a welcome relief for the market because it would boost the financial performance for companies with extensive presence in United Kingdom.

Inflation Not a Worry for Now

We have already crossed more than half of FY 2019 and safely say that the current market scenario has undergone a sea change over the past year. The implications of the change are essential since the United Kingdom, as per IMF, has the world’s fifth-largest Gross domestic product (GDP). Only the United States, China, Japan and Germany surpasses the United Kingdom’s GDP.

Currently, we are witnessing the Financial Times Stock Exchange 100 Index (FTSE 100) nudging low in the backdrop of a no surprise inflation data and weaker Pound. In the present scenario, uncertainty has ramped up, volatility has risen, and investors’ confidence has been shaky.

In this muddled state of affairs, the only winner seems to be the Bank of England. With 2 per cent inflation in line with market estimate, the Bank of England can maintain current interest rates. Rising food and apparel prices balanced by falling prices of energy, accommodation and auto fuels. Apparels were on the higher side as discounts were few compared to the year-ago period. Overall as per the Office for National Statistics, core inflation rose to 1.8%, in line with the market estimate.

The stance of The Bank of England

As of now, The Bank of England has a stable stand to keep its monetary policy unchanged with the base rate remaining at 0.75 per cent. The position based on global trade risks and growing fears of a damaging no-deal Brexit. Mark Carney (Governor of the Bank of England) had earlier talked about the need for higher borrowing costs. However, given practical situation took a more conciliatory approach in the latest meeting.

Market speculates a rare chance of a rate hike until at least mid – 2020. The reason is as Brexit, and the receding British economy has made it difficult for the bank to get back to normalising the interest rates. The main reason why the central bank opted to keep interest rate on hold was the concerns about the economic outlook. The risk increased, primarily because the incumbent Prime Minister Boris Johnson would lead the country out of Brexit, with or without a deal. However, given that United Kingdom’s inflation growth at an annual rate of two per cent for the second straight month, we do not foresee any change in the interest rate at the next Bank of England meeting on August 1, 2019.

Doomsday for United Kingdom Economy on No-Deal Brexit?

The financial diaspora and the political establishment of the United Kingdom are firmly against a no-deal Brexit. The Brexit process remains increasingly unclear and political turmoil continues to persist. While investors have increasingly priced in the risk of a no-deal departure under a new government in October, the Bank of England remains rooted in the assumption of a smooth Brexit process.

However, on the other side of the coin in case of a no-deal Brexit, the consequences are expected to be severe on the British economy, unemployment, wages, and house prices. The above doomsday projection came from the official forecast from the United Kingdom government’s Office for Budget Responsibility (OBR) on Thursday. As per the agency, the impact of leaving the European Union without a deal could slash United Kingdom GDP by two percentage points by the end of 2020 on the back of trade barriers and uncertainty deterring investment. The bearish trend reflected in the latest Inflation Report from the United Kingdom’s Monetary Policy Committee.

Conclusion

The overall macro sentiment is still weighted down by ongoing trade tensions between the United States and China; lower United States Treasury yields; and Ultimate fate of Brexit. However, on the home front, the United Kingdom’s inflation seems to be under control, moving in tandem with broader market expectations. The labour market showed that total pay growth accelerated to 3.4 per cent and the number of people in work rose more than forecast in the three months through May. It remains a bright spot for the United Kingdom economy. The unemployment rate remained unchanged at 3.8 per cent, the lowest since the mid – the 1970s. However, weaker than expected factory input cost data might furrow the eyebrows of the United Kingdom’s investors.

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