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Markets vs the BoE
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Markets vs the BoE

Richard Conway Weekly bulletin April 2019

Last week’s bulletin cautioned that a return to fundamentals may be in the offing. If recent data are anything to go by, that may not be a good thing.

UK GDP disappoints

Generally speaking, the UK economy has done rather well over the last three years. Despite the Brexit backdrop employment has gone from strength to strength, inflation is right around target, and GDP growth (with a couple of exceptions) has been broadly robust.

Last week’s GDP figures will therefore have come as a disappointment. Rolling quarterly growth at a tepid 0.3% suggests that Q4 weakness has continued into 2019 and that the UK economy may have shifted to a lower gear. For context, trend is thought to be closer to 0.5 or 0.6%.

Bright spots hard to come by

Broader global weakness can take some, but not all, of the blame. It’s becoming increasingly hard to find bright spots in the domestic economy too.

Services growth fell to just 0.1% between January and February, while the strong showing by manufacturing looks to have been flattered by stockpiling in the run up to 31 March . The latter is particularly troublesome. Absent a bounce in demand down the road this can have the effect of transferring output from tomorrow to today, depressing future growth. Firms are also more likely to get the numbers wrong than right.

Markets vs the BoE

Markets have taken this narrative on board judging by recent shifts in the gilt and swap curves. Both have fallen some 20-30bps on the expectation of lower growth ahead and a slower pace of rate hikes as a result.

Not quite so at the Bank of England. In the eyes of policymakers, “the MPC’s February Inflation Report projections appear on track”. Built on the central assumption of an orderly Brexit outcome, these envisage a gradual tightening of monetary conditions as a withdrawal agreement is finalised and economic slack falls. Their thinking has remained resolutely consistent. Despite acknowledging uncertainty ahead, there still appears to be appetite for higher interest rates on Threadneedle Street.

They cannot both be correct. Either the BoE risks losing credibility by ignoring the fundamentals, or markets are wrong – in which case we are in line for a correction.

Most would agree on the lesser evil.

For more information, please contact Richard Conway, Associate Director at JCRA, at richard.conway@jcrauk.com.

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