UK economy boosted by construction, as US rate cut expectations on knife edge
UK economy boosted by construction, as US rate cut expectations on knife edge
Is there anything that can stop stock markets right now? Certainly not US inflation. The CPI report on Tuesday was expected to be one of the make-or-brake data releases ahead of next week’s FOMC meeting. But it wasn’t. In the aftermath of the US CPI report, the S&P 500 rose to a fresh record. On Wednesday, European stocks opened slightly higher, and bitcoin was higher by $2,200 at the time of writing and is at a fresh record high above $73,000.
The UK’s brief flirtation with recession
There is growing evidence that the UK is emerging from its technical recession, although it’s hard to say that the economy is bouncing back. The service sector expanded by 0.2% in January and was the largest contributor to growth. However, growth was flat in the 3 months to January, suggesting that the service sector still has room to expand to stop the UK economy from flatlining.
There was encouraging news about the construction sector. Construction output rose at a 1.1% monthly rate, reversing 3 months of negative prints. This was the highest rate of monthly output since June 2023, and was mostly down to increases in new housing construction, and non-housing repairs.
The contrasting picture between the UK and the US
Production was also weaker at the start of this year. Industrial production fell 0.2% in January, while manufacturing production was flat. The fall in industrial production comes after two months of growth, this was driven by a fall in mining and quarrying. This was mainly due to a decline in the production of crude oil and natural gas, which fell 2.8% on the month. While this is only one month of data, it comes at a time when energy security is front and centre, and the US is producing a record -breaking amount of oil and is now the world’s largest oil producer. This sharp contrast between the UK and the US is also reflected in our contrasting economic fortunes.
Supply chain disruptions and strikes continue to hit UK output
The Office for National Statistics also pointed out some cross-industry themes in the January GDP report. It suggests that some industries suffered some supply chain disruptions caused by the attacks in the Red Sea. The ONS also said that some manufacturing production had been impacted by conflict in the Middle East. Strike action may also have limited output in January. Doctors were on strike for 6 days in January, there were strikes in the rail sector and the film industry in the UK was still feeling the effects of the Screen Actors Guild Strike in the US. Although it is hard to quantify the impact of these disruptions on the GDP report, it does suggest that without them, UK output would be higher.
Overall, this data suggests that the UK economy merely dipped its toe into recession, and is quickly returning back to growth, although it is still fairly lacklustre at this stage. The Bank of England has already said that it will take its time when it comes to cutting interest rates. This GDP report has not shifted the dial for UK rate cuts, after rate cuts were pushed forward on the back of the UK labour market data on Tuesday. The first cut is expected in June, and the market still expects 3 rate cuts this year.
GBP makes a comeback
GBP/USD is making a comeback on Wednesday, after a sharp sell-off on Tuesday, and it is back testing the $1.28 handle. This suggests that it will take more than one month of labour market data to weaken sterling, which is still the best performing currency in the G10 FX space this year.
Stocks brush off concerns that Fed rate cuts could be delayed
The rally in asset prices in the aftermath of the US CPI report is puzzling for a number of reasons: firstly, stocks are rallying at the same time as Treasury yields are rising. The 2-year Treasury yield is higher by 11 basis points so far this week. Added to this, there has been a slight recalibration of when the Fed will cut interest rates. The chance of the first rate cut coming in June has been revised down in the last 24 hours to 57.4%, down from 65.5%. The chance of the first rate cut coming in July now stands at 44%, which is up from a 40% chance last week. Whether or not we get a rate cut from the Fed in the first or second half of 2024 is now on a knife edge. The CPI report only added to the confusion, the market will be looking for clarity from the Fed next week, which is possibly why stocks and risk assets are rallying even though bond yields are also climbing.