Business

Rates and sterling will be closely scrutinised this busy week

The Bank of England meets again this week to set interest rates

THE fall-out in financial markets from the UK election has been largely confined to sterling, which has lost about 1 to 1.5 per cent, so the surprise election result has not been a major market-moving event.

This may be because of speculation that the election outcome increases the prospects of a ‘soft' Brexit as a minority Tory government will have to be more cognisant of the views of the opposition which tends to favour reaching a deal with the EU and a softer Brexit. The ‘hard' Brexit UKIP party also performed very badly in the election. The Prime Minister's tough line on Brexit in the election does not seem to have gone down well with the electorate.

A minority Conservative government will soon commence formal Brexit negotiations with the EU. The UK does not start those talks from a position of strength. It will now have a weakened minority government facing a united EU. The agenda and time-line for the talks are being set by the EU and the UK does not have a veto on the final deal. After the election result, there is little credibility to the government line that no deal is better than a bad deal.

In the week ahead, there is a busy schedule of central bank meetings, including the US Federal Reserve and Bank of England. The Fed is expected to announce a further 0.25 per cent US interest rate hike, reflecting the on-going positive economic developments, including the unemployment rate falling to just 4.3 per cent.

Meanwhile, the Bank of England Monetary Policy committee (MPC) meeting is expected to result in no changes to policy. At its May meeting, the minutes continued to note that for some members it would take “relatively little further upside news on the prospects for activity or inflation for them to consider” voting for a hike.

However, the UK data since then have generally surprised to the downside, including GDP for the first quarter of the year being revised down to 0.2 per cent versus MPC expectations for an upward revision to 0.4 per cent. Overall, both political and Brexit uncertainty and slower economic growth are likely to keep the UK central bank on hold for some time. The financial markets are not predicting a rate hike in the UK until the middle of 2019.

There are also some key data releases due this week, including a raft of UK labour market updates. Employment is forecast to have risen by a solid 135,000 in the three months to April, while the unemployment rate looks set to have remained at just 4.6 per cent. Despite low unemployment, underlying wage growth is forecast to slow further to 2 per cent, its lowest level since the end of 2015.

CPI inflation has picked up, reflecting the weaker value of sterling. Headline inflation looks set to have held at 2.7 per cent in May, showing real earnings remain negative. UK retail sales are expected to have fallen by 0.8 per cent in May after jumping sharply by 2.3 per cent in April.

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