The positive market mood and increasing wage pressures have boosted the pound on Tuesday. This has increased expectations for further large rate hikes by the Bank of England (BoE).
Employment data in detail
Pound Sterling (GBP) strengthened as labour cost data has proven to be more resilient than expected. United Kingdom firms are offering higher payroll charges to attract talent amid labour shortages. Higher wage pressures will offset the rise in the unemployment rate.
With higher disposable income available to households and higher purchasing power, the overall demand is anticipated to increase. The jobless rate has also increased to 4% and the Claimant Count Change has added 25.7K job seekers. Three-month Average Earnings excluding bonuses remained stable at 7.3%.
Bank of England interest rates
On Monday, BoE Governor Andrew Bailey explained that the central bank will keep a close eye on the job market in an attempt to bring inflation down to its desired 2% target. Bailey repeated that the central bank is making efforts to create an environment to boost price stability. While inflation in the UK economy has eased and dropped from its peak of 11.1%, Prime Minister Rishi Sunak’s projection that inflationary pressures would halve by year-end may be too optimistic.
Finance Minister Jeremy Hunt also noted on Monday that the government and the central bank will do what is necessary, for as long as necessary to control persistent inflation. Market participants are expecting that the interest rates by the Bank of England would peak at 6.25-6.50%.
Labour market is loosening quickly
However, analysts have noted that while there are evident inflationary pressures in the wage data, the market is turning. This means that there will be less pressure on the bank to raise rates further, despite market expectations of interest rates rising up to 6%. With less pressure on the bank to push rates higher, it is believed that the chances of the UK economy entering a recession will diminish. To a certain degree, lower Bank of England rate hike expectations are supportive as they lessen the odds of a sharp economic slowdown later.
Samuel Tombs, Chief UK Economist at Pantheon Macroeconomics, has said that the UK labour market is no longer tight, and that wage growth will slow significantly in 2024. As he noted, there are signs that the labour market is loosening quickly which could reinforce the case for the MPC to stop its rate hiking cycle soon. He expects two more 25 basis points rate hikes, which are far less than the market is expecting (+100bp).
If this proves to be correct and market readjusts its expectations, then the pound will weaken. At the same time, the pound has demonstrated that it can be relatively unresponsive to high rate hikes, so diminishing rate hike expectations may provide support, as they could lower the chances of a recession down the line.
Upcoming UK data to watch out for:
Wednesday’s Financial Policy Committee (FPC) minutes, and Thursday’s Industrial and Manufacturing data (May) will be key. Monthly Industrial Production and Gross Domestic Product (GDP) are expected to shrink by 0.4%. Manufacturing Production is expected to contract by 0.5%.
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