Divergent Rate Expectations Dominate GBP Moves

Global developments have continued to dominate the Pound Sterling with markets continuing to re-assess the outlook for interest rates.

Markets have pushed back expectations of Fed rate cuts while the ECB remains on track for a June rate cut.

This combination has undermined the Pound to Dollar (GBP/USD) exchange rate with 2-month lows close to 1.2500.

In contrast, the Pound to Euro (GBP/EUR) exchange rate has hit 1-month highs close to 1.1725.

The Pound has been underpinned by gains in equities with the FTSE 100 index above the 8,000 level

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UK data will, therefore, be a key element.

GDP was reported as increasing 0.1% for February which was in line with consensus forecasts while the January figure was revised to a 0.3% increase from the first estimate of 0.2%.

Services output increased 0.1% on the month while there was a strong 1.1% increase for production, but construction posted a sharp 1.9% contraction.

There were no revisions for 2023 data with the UK still in a technical recession for the second half of the year.

GDP increased 0.2% in the three months to February.

ONS director of economic statistics Liz McKeown commented; “The economy grew slightly in February with widespread growth across manufacturing, particularly in the car sector. Services also grew a little with public transport and haulage, and telecommunications having strong months.”

She added; “Partially offsetting this there were notable falls across construction as the wet weather hampered many building projects. Looking across the last three months as a whole, the economy grew for the first time since last summer.”

KPMG UK chief economist Yael Selfin, commented; “Despite weaker momentum in February, the economy’s ongoing recovery is the latest piece of evidence that the shallow technical recession is already behind us.”

She added; “Nonetheless, there are limits to the UK’s growth potential this year. Consumer spending remains fragile. Business investment could be dented by uncertainty related to the general election and growing speculation around a second fiscal event in the Autumn, while weakness in the housing market could further drag on construction by lowering the return on new housebuilding.”

Interest rate expectations will inevitably be a key element.

Neil Birrell, chief investment officer at Premier Miton Investors, commented; “With inflation tracking back, the Bank of England might be persuaded to start cutting rates sooner rather than later and after the CPI data out of the US and the ECB meeting over the last week, we could well see the Fed being the last of the three to take any action on rates. That would be quite a shift over a period of a few months.”

According to ING; “we think the outlook for the UK economy is undoubtedly improving.”

It added; “we’re likely to see growth rates remain positive throughout 2024 and potentially gain momentum into the second half of this year. We shouldn’t expect fireworks though, and we don’t think the growth outlook is going to have much bearing on the timing of the first Bank of England rate cut.”

The bank is still backing a first rate cut in August compared with June, but only narrowly.