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What have we been up to


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Brexit machinations as market waits for central banks

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Last week saw UK rates enduring a topsy-turvy week which, while very volatile, saw them end up only fractionally higher than at the start of the week. The pound, however, continued its recovery and appreciated significantly against both USD and EUR. 
The news this morning that Matteo Renzi has resigned as Italy’s Prime Minister following his loss in the referendum to a coalition of left-leaning anti-EU parties was not a total shock, and the markets took the news relatively calmly. Political upheaval in Italy is hardly news, and the common expectation is that no immediate elections will be forthcoming and that President Mattarella will ask the current Finance Minister, Pier Carlo Padoan, to form a caretaker government. While the rating agencies have already made it clear that the referendum result will not have any impact on Italy’s current BBB- rating, whether that manages to save Monte dei Paschi from having to be nationalised should become apparent this week.
While the Brexiteers may be celebrating the obvious success of the anti-EU parties in the referendum, the Remainers at least had a modicum of solace from the result of the Austrian presidential election. There had been considerable anticipation that the anti-EU, far-right Freedom party led by Norbert Hofer would continue the run of populist victories, but he ended up losing to the Independent/Green candidate, Alexander van der Bellen. However, with elections expected within the next year, few are predicting that this will stop the march of the Freedom party and its forming the next government.
Brexit has also remained the main topic of conversation in the domestic market during the past week  This mainly focuses on the differing predictions for economic growth over the next couple of years. The OECD put up its projections which forecast contractions of 0.9% and 3.0% in 2017 and 2018 respectively. These were far worse than those produced by the OBR (Office for Budget Responsibility), which had expansion of 1.2% and 3.6% respectively, and brought the normal howls of outrage from the Rees-Mogg faction of Brexiteers.
In fact there were a few glimmers of hope that some sort of sense may be starting to emerge in the UK, judging from both the actions of the government and some of the comments from the negotiating team – well, David Davis anyway. First up was the announcement that the UK would sign up to the European patent agreement. This allows intellectual property rights to be registered across Europe rather than on a country by country basis through the Unified Patent Court. It is clearly a case where membership of the EU is reducing red tape and promoting trade. However, rulings on cases coming to it will be subject to the rulings of the European Court of Justice and it will be interesting to see whether the Brexiteers manage to swallow their dislike of the ECJ in order for this sensible initiative to proceed.
The other Brexit event of the week was David Davis informing parliament that the previously ‘hard Brexit’ line on immigration may be softening. Hopefully this is a result of a realisation that, without a level of immigration vastly higher than the tens of thousands the Prime Minister seems fixated on, the NHS will completely collapse, our universities will lose their global reputation for excellent research, and the OECD’s predictions on GDP growth will become closer to reality. He went on to suggest that the UK might contribute to the EU budget in order to retain access to the single market. Whether this would be confined to specific areas was not clear. While passporting would be very high up the financial services wish list, it may rank secondary to pharmaceuticals and car production (in order to meet the Nissan secret agreement) as easier areas to negotiate.

There is not a great deal to get the domestic market too excited this week. Earlier today the Chartered Institute of Procurement and Supply (CIPS) report on the service sector was released and was forecast to suffer a small contraction from last month, with the index falling from 54.5 to 54.0. In the event it rose to 55.2, as did the composite (all sector) index. Also up this week are the manufacturing and industrial production figures (on Wednesday) where the market is looking for a bounce following contraction in the last quarter, and trade figures (on Friday) where the deficit should narrow a bit due to the currency’s depreciation.

This week will see the market starting to concentrate on the central bank meetings, with the ECB starting the process on Thursday. While the eurozone economy is in a growth phase, it is sufficiently weak that few expect Mario Draghi to do anything other than extend the QE programme out for another six months. We suspect that most of the time at the ECN meeting will be spent determining what action should be taken if sales of Italian government bonds start to surge. Italian domestic investors are large-scale holders of their own debt, and the sight of them trying to sell out would not be a happy portent for eurozone stability.

All views expressed here are the author’s own and are based on information available at the time of writing.




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