Stagflation fears weigh on the GBP

(28.02.2011) Q4 GDP figures from UK were revised down. Fear that the economic development will be weak also going forward, at a time when BoE may hike rates, weighed on the GBP last week. This week the ECB interest rate meeting and US employment figures will gain a lot of attention.

By Camilla Viland, Analyst at DNB Markets

illustration gbpQ4 GDP figures from the UK were slightly revised down, from -0.5 to -0.6 per cent q/q. The main components pulling down are investments and net trade. Last month the ONS said the uncertainty surrounding the preliminary release of the Q4 figures were in particularly large due to bad weather. Many had thus hoped that the decline initially reported may be revised away, but got disappointed. The ONS said they estimate the effect from bad weather to about 0.5 per cent of GDP.

Thus, even when adjusting for bad weather, the economy declined slightly towards the end of last year. Figures released lately (CIPS, retail sales) do however indicate that the start of this year has been stronger. Nevertheless, given fiscal tightening the economic development going forward is expected to be poor. The economic outlook weighs on the GBP.

The Middle East turmoil and rising oil prices also seem to affect the GBP negatively. A higher oil price indicates higher inflation which may again lead to higher interest rate expectations. Signals given from the Bank of England (inflation report, MPC minutes) also indicate that interest rate hikes are nearing. Prospects for higher interest rates would normally be positive for a currency. However in this case many fear that monetary policy tightening on top of fiscal tightening may kill the ongoing economic upswing. Fear of stagflation (a recession and high inflation simultaneously) weighed on the GBP throughout last week.

US GDP figures were also revised down, from 3.2 to 2.8 per cent annualized. Both government and consumer spending were lower than initially estimated. Despite of this, the dollar has strengthened.  The dollar strengthening may be related to a retreat in oil prices. A stabilization of oil prices also helped stocks higher on Friday.

Registered unemployment in Norway decreased by almost 1000 persons (seasonally adjusted) in February. This was the third straight monthly decrease and the number of unemployed is now at its lowest level since December 2009. The unadjusted unemployment rate fell from 3.1% to 3.0%. The February data confirmed that the labour market is improving. Norges Banks has already taken into account for a decrease in unemployment in their forecasts. Hence, Friday's figures should not affect the central bank’s policy assessments by much.

Inflation figures from Germany released on Friday show that inflation continues to rise. Y/y HICP inflation is now at 2.2%. The ECB is following developments closely. On Thursday the European Central Bank has an interest rate meeting. In light of rising inflation and generally strong key figures over the last month many believe the ECB soon will start to hike rates. Several ECB members have also been interpreted as more hawkish. An interest rate hike already at this meeting is not likely. However any possible signals on the road ahead given at the following press conference will be closely analysed and may pose market reactions.

US employment figures due on Friday will also gain a lot of attention this week. Last month payrolls increased by 36' people. This was far lower than expected, but the outcome may be due to bad weather. If so a correction could be in place this month. Consensus expects an outcome of +160'.