The UK economy continues to stagger, at least we are looking good at the 6 Nation’s!

Week Commencing Monday 11th March 2013

Overriding Market Themes

The Bank of England's monetary policy committee kept interest rates at 0.5% and rejected calls to inject more stimulus into the economy last week. There had been more calls for the Bank to do more to support the economy and expand its asset purchasing program, especially after Mervyn King voted to increase the program at the last MPC meeting and was outvoted. It appears that this month's meeting was equally divided as a combination of mixed economic data and the recent dovish direction of the Bank stoked increased division in the nine member committee. While the on-going question of the Bank mandate (which is under review in the next budget) and policy tools may have played their part in the committee's decision to keep all as it was, the economic backdrop would have also guided their thinking. Services, manufacturing and construction surveys all indicate the economy will resume growth this quarter after the 0.3% contraction in the last quarter, and at least in our view, talk of a triple-dip recession is unfair. In the words of Markit's Economics, the picture is "one of stagnation and not recession".  All this has led Sterling to decline to a two and a half year low versus the dollar and dropped once again against the Euro. This partly works in the UK's favour by allowing both the manufacturing and services sectors to export their products more cheaply, whilst increases in inflation are also expected as imported goods become more expensive. We are now looking to see Sterling decline towards 1.46 within the coming weeks as we struggle to find any positive UK data on the horizon.

Over to the Far East, Japan's economy stopped contracting in the final quarter of 2012, raising hopes that a recovery is imminent. GDP grew at an annualised rate of 0.2% in the quarter after economists initially projected the economy to contract by 0.4%. Higher than expected corporate spending and consumer spending are thought to be the main driver of the expansion. Prior to the fourth quarter, the Japanese economy had contracted from April to September as a strong Yen, shrinking exports and the political spat with China hurt confidence. These forecasts led the Yen to become the worst performing industrialised currency against the US Dollar, seeing losses slightly higher than the 6% posted by the Pound.

Italy's credit rating was cut one level by Fitch as the inconclusive election last month produced a political stalemate, further hurting the country's ability to respond to the recession and the European debt crisis. The ratings agency lowered Italian government bond ratings to BBB from A- with a negative outlook, which places Italian debt just three levels above junk and one higher then Spanish debt. Outgoing Prime Minister Mario Monti helped successfully calm markets by controlling Italy's spiralling budget deficit and implementing reforms aimed at shoring up the country's balance sheet. Under Monti and prior to the elections, Italian 10 year bond yields had fallen by almost 50% from their peak at 7.5% in November 2011. Monti's resignation coupled with a potential hung parliament has fuelled concerns that Italy may reignite the debt crisis contagion.   

Further to the situation in Italy, Cyprus is back in the headlines as discussions surrounding their bailout begin. European leaders will meet in Brussels on the 14-15 March summit to discuss terms, including the island's debt sustainability and possibility of imposing losses on depositors. The EU is yet to reach an agreement with the International Monetary Fund and the Cypriot government on the size of the bailout, which could end up dwarfing the size of the 18 billion euro economy.

Across the Atlantic, retail sales seem set to rise in February for a fourth consecutive month as stronger household finances buoyed by an improved jobs market helped consumers adjust to higher payroll taxes. Retailers took on almost 24,000 new employees last month, contributing to a 236,000 increase in payrolls that smashed through median forecasts of just over 150,000, which pushed the unemployment rate to a four year low of 7.7%.


GBP This Week

This should be a light week for Sterling data, with Tuesdays Manufacturing Production the highlight of the week. Despite February's sharp 1.6% increase, the markets are bracing for a downturn in the upcoming release, with an estimate of a 0.1% gain. We are slightly more optimistic, se we will be watching this indicator with baited breath. NIESR GDP should also prove interesting, especially as the indicator has not looked sharp in recent history (coming in flat in February). The markets will be hoping for a March reading in positive territory, and should we get one, may give Sterling some support.

The Pounds terrible performance of late cannot be ignored, shedding over ten cents against the Dollar since the beginning of February. The UK economy continues to stagger whilst in contrast; the US posted some solid figures of late. This has and will continue to put more pressure on the Pound, which we should continue to see weaken against majors as we move into the week.

USD This Week

The US federal budget balance starts the Dollar week, with many analysts expecting the deficit to reach USD 4.6 billion. Interestingly, the deficit has already grown by USD 290.4 billion this year, which is USD 60 billion lower than the same period a year ago, so progress is being made. The Congressional Budget Office predicts that the deficit should post USD 220 billion this time. We then move to US Retail Sales, which as mentioned above should post gains this week. Thursday sees PPI published, and with a decline in energy prices offsetting the strong rise in food prices, we expect a slightly lower figure of 0.6% this month. Finally, the University of Michigan Consumer Sentiment figure on Friday should confirm confidence has been rising, with analysts expecting a further rise to 78.2 this week.

With so much positive sentiment oozing from the US, it is difficult to see how the dollar can lose any momentum against its peers. It seems that there is now the political will to tackle the countries massive budget deficit whilst the consumer sentiments to keep domestic demand high. We continue to speculate further appreciation of the greenback, perhaps with a slowdown of momentum.

EUR This Week

With a reasonably light week of data releases from Europe, all eyes seem focused on the EU economic Summit in Brussels. The leaders will discuss the means to achieve oversight of euro-area lenders by the ECB, while also renew their endorsement of new budget rules that are due to take effect later this year.

We are somewhat bearish on the Euro moving into March, especially as the weakness of the member states comes into light. France, Spain and Italy are not performing well, and while German business indicators are strong, the economy is showing signs of weakness (as seen in factory orders and industrial output). Sterling will have more luck against the Euro moving into 2013, especially if we continue to see the recessionary pressures the bloc is under. Expect GBP/EUR to remain range bound against the Pound, whilst loose more ground against a strong US economy.

In Other News

England will go to Cardiff next Saturday hunting for their first Grand Slam in a decade after stumbling past a strong Italy. Toby Flood slammed in six penalties which dragged a beleaguered England to victory after bookmakers predicted a walkover. England has never lost to Italy in 18 meetings but a strong second half try from Luke McLean and two excellent penalties from Luciano Orquera raised Italian hopes that success was finally around the corner. Thankfully the stars aligned and England just sneaked through, but now the real test begins! Wales need to win by 8 points to secure the title, let's see if England can muster the bottle to survive one last battle.



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