(13 SEPTEMBER 2017)DAILY MARKET BRIEF 1:Weak sterling drives inflation higher, wage growth stalls

The pound sterling rallied strongly yesterday, hitting a one-year high against the greenback, as investors anticipate the upside surprise in inflation would force the BoE to step in. GBP/USD rose more than 0.90% on Tuesday, the highest level since September 2016, following the release of higher-than-expected inflation levels for August. Indeed, the headline gauge printed at 2.9y/y versus 2.8% median forecast and 2.6% in the previous month. The core measure, which excludes the most volatile components, came in at 2.7%y/y versus 2.5% expected and 2.4% in July, suggesting that the tick up in fuel price is not the sole explanation.

Indeed, the sharp depreciation of the pound sterling over the last few months impacted the cost of imported goods to the upside. Clothing and footwear component rose 4.6% over the last 12 months, contributing to 0.26 points to the CPIH rate (compared to -0.07 a year ago), while the surge in restaurant and hotels prices contributed to 0.35 points (compared 0.23 a year ago).

This morning, the ILO unemployment rate fell to 4.3% July from 4.4% a month ago as employment change rose to 181,000 versus 150,000 median forecast and 125,000 in June. However, average weekly earnings stayed stable at 2.1%y/y versus 2.2% expected. The lack upside pressure in basic wage growth suggest that households’ stalling disposable income won’t accelerate the pick-up in inflation. In addition, the pound sterling has stabilised since the beginning of the year, if not recovered, and this would somehow eases the upside pressure in inflation stemming from the exchange rate.

Against this backdrop, the BoE will stay on hold tomorrow, especially the negative effect of Brexit have kicked in yet. Investors will therefore monitor the change in voting pattern. From our standpoint, we believe the BoE won’t take the risk to tighten its monetary policy while the Brexit negotiations have barely started and even more since the EU won’t make it easy for UK negotiators. The uncertainty is just too high and one wrong step from policy makers could be very costly for the UK economy.

By Arnaud Masset