Monday witnessed a surge by the British Pound against all rivals as the market picked up on economic data from the UK Office of National Statistics suggesting that the country’s economic growth increased noticeably in July 2018, which could signify the start of a Q3 growth surge.
According to the figures released by the ONS, UK GDP went up 0.3 percent in July as against the market expectation of 0.2 percent. This made the period of May-July the strongest quarter of growth since August 2017. This growth was driven primarily by surges in services and construction industries, which were boosted by a warm football summer and a surge in house construction.
The FIFA World Cup has been identified as a reason for high levels of retail and wholesale activity which boosted the service industry’s output by 0.6 percent. Conversely, the industrial sector was identified as a drag on growth over the same period due to significant maintenance-related downtime and production stoppages between May and June.
Manufacturing also did relatively poorly according to the latest figures, contracting 0.2 percent when it was expected to grow by the same margin. The ONS attributed this to a 7.5 percent drop in pharmaceutical output which offset a strong performance by 8 of 13 manufacturing sub-sectors.
According to the data, the Bank of England Monetary Policy Committee (MPC) forecast predicting 0.4 percent quarter-on-quarter growth is an uncertain possibility, but the risks for this prediction include a global manufacturing slowdown and the possibility of heightened UK political tensions due in no small part to the ongoing Brexit negotiations. These factors combined could lead to a weak 2018 Q4.
Sterling Building a Support Base?
Over the past few days, Sterling’s performance has been relatively stable, driven by a series of positive Brexit headlines. The market senses that it may be building a new support base – a price floor based on recent market activity, and news like this serve to strengthen that impression.
Following the release of ONS figures on Monday, GBP rose 0.22 percent against USD to rest at 1.2942, up from a prior 0.18 percent gain. GBP also exchanged 0.07 percent higher against EUR, coming to 1.1185. It also rose against all developed world currencies on the news.
From a market point of view, UK GDP data is significant because it is a reflection of demand levels in the country, which significantly impacts on consumer price inflation, and consequently on Bank of England interest rates. Interest rates traditionally have a direct correlation with exchange rate movements, so effectively GDP data works as a good predictor of future currency market movements.
Brexit and Market Uncertainty
Last month, the BoE raised interest rates by 25 basis points in response to increased inflationary pressure, the second time it would do so in 9 months. Its target inflation rate over the next two years is 2 percent, but the looming spectre of Brexit has made the UK’s central bank postpone any planned interest rate move as Theresa May’s government struggles to thrash out the details of one of the world’s most complicated negotiations.
After triggering Article 50 last year, the UK now has a March 29, 2019 deadline to exit the EU. Brexit negotiations are now at an extremely critical stage, imperiled by questions surrounding the Irish border, which at best, could be a major sticking point, and at worst, signal the return of an Irish hard border and the associated sectarian activity.
Against this backdrop, the BoE is understandably unwilling to make any significant decisions, which means that the outcome of the Brexit negotiations in the weeks and months to come will effectively become the primary driver of GBP performance going forward.
Under the terms of Article 50, negotiations should be concluded in 2018 for the resulting set of trade and political agreements to be approved and ratified by the European Council and all 29 EU member state parliaments before March 29. Not meeting this deadline could result in a Hard Brexit—which would see British goods and services subject to tariffs—a major blow to the economy.