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A succession of weak economic releases last week failed to produce much of a reversal in the markedly higher levels to which rates have moved over the past couple of weeks. This is somewhat surprising for a market that is normally very willing to trade on the basis of a rate hike being likely in a year or so’s time. With the economy appearing to be in a pretty weak state, and with the consumer becoming increasingly worse off, the thought of a rate hike would seem pretty absurd given the current background. The MPC’s problem, of course, is that it is now suffering from its failure to raise rates when the economy was performing strongly a couple of years ago and for not reversing the panic measures it took last August after the Brexit referendum.
Most of the attention last week focused on the Markit PMI surveys for manufacturing, construction and service sectors, which all failed to meet their median forecasts. All, however, remained on the right side of the 50 mark, thus showing growth, but at a fairly diminished level. Not surprisingly, this led to many economists revising downwards their expectation for second-quarter GDP and the consensus is now running at between 0.3%-0.4%. This comes after the very poor 0.2% recorded in the first quarter and hardly represents the major improvement that had been expected.
More disappointment was to follow with the industrial production and construction figures, which showed output falling in May and continuing the very lacklustre performance of these sectors since the start of the year. Then, just to round things off, the latest trade figures showed the deficit actually widening. In many ways, this appeared to be the most worrying statistic of the week. While the Brexit vote-induced weakening of the pound has had its inevitable impact on inflation, one crumb of comfort was the boost it would provide to making our exports more attractive. It may be remembered that the quid pro quo for being thrown out of the Exchange Rate Mechanism (ERM) was three years of trade surpluses. While the recent demise of the pound may have had a hand in narrowing the trade gap, it has failed to boost exports to run at the levels most economists had been expecting.
One question asked by Andrew Neill of an arch Brexiteer on Sunday was that if it was possible for Germany to run a trade surplus with the US and China, why, while being subject to the same trade barriers, was the UK singularly incapable of the same type of performance. Needless to say, he did not get an answer. The standard line taken by David Davis and, particularly, Liam Fox is that these markets (and for some reason Australia always gets a mention) are just desperate to buy UK-manufactured goods. However, it seems strange, when our EU competitors manage to perform so much better than the UK in exporting to these major markets, that reaching a trade deal with them will boost our exports by anything other than a small proportion of the reduced sales to the EU countries.
The press may trumpet the idea that a favourable outcome from the G20 summit was President Trump’s repeated offer to enter into a trade agreement with the UK. What terms might be applied to any sort of deal might, however, be interesting. It is noticeable that the Brexiteers do not seem to have anything like the same enthusiasm for a trade deal with the US as the media. Trump is pulling out of trade agreements as part of his policy to pull back production to the US, even if it is in obsolete industries. This is being backed up by changes to import criteria that are deliberately designed to make importing goods into the US more difficult. More than 150 new standards have been introduced in the past year to achieve this effect.
The sizeable bloc that is the major mover in bringing down trade barriers is – you have probably guessed – the EU. While barriers in terms of criteria being applied to goods are proliferating in the US, the reverse is occurring in the EU, albeit not at the same speed. It will also be noted that the EU signed a trade agreement with Japan at the weekend. This has some interesting ramifications for the UK and its car industry in particular.
While the details of the deal (i.e. cost) are unknown, the UK government appears to have secured Nissan’s manufacturing for the UK for the next few years. Most believe that this is roughly based on providing a subsidy equal to any additional tariffs that they will have to bear on their exports to the EU. Presumably, this subsidy will become increasingly expensive as all EU-Japan tariffs are removed and the advantage the UK used to provide for Nissan and many other Japanese companies as their gateway to the single market is no longer required.
This Bulletin has always opined that the greatest threat Brexit would pose to the UK economy would be the demise of the UK’s attraction as the most effective route into trading within the EU on a tariff-free basis. While this will only become apparent over a period of years, its impact on the size and capability of the UK economy may prove to be severe.
This week is very short on new economic data, with only the labour market statistics to keep the market’s mind off Wimbledon. However, these will be followed with interest. The average earnings number may fall as low as 1.8%, which will emphasise the widening of the gap between earnings and inflation and the resultant inability of the consumer to bail the economy out of its despondent state. Meanwhile, the unemployment rate is expected to remain at the amazingly low level of 4.6%
It is pretty difficult to make the case that UK rates should move any higher from current levels.
All views expressed here are the author’s own and are based on information and data available at the time of writing.
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