If you take a look at the data and surveys from the UK, including the most recent manufacturing PMI (Purchasing Managers’ Index), it all points to, at the very least, a sharp slowing in economic activity, with the exception of the labour market data. That continues to record solid employment growth, albeit with wages lagging significantly behind inflation. It is that relationship, between earnings and prices that could prove to be the undoing of the Bank of England, in terms of the course of interest rates.

Last week saw more data and surveys that underlined the problem for the UK. The CBI (Confederation of British Industry) industrial trends and distributive trades surveys for July recorded signs of a further drop in activity levels, the Lloyds business barometer for July also dropped again, and the BoE (Bank of England) lending data recorded another jump in unsecured credit usage in June. The economic picture from the July manufacturing PMI index released early this week points to an additional slowdown in activity in the sector.

For the remainder of this week, the data is secondary to a big event, which is the Bank of England Monetary Policy Committee meeting, press conference and quarterly Monetary Policy Report. The market consensus is that the BoE will hike 50 basis points, but the commentary from various BoE members does not suggest that such a move is obvious. So far the BoE has been cautious, and I would expect it to remain so, especially as the risk of going faster on monetary tightening appears to suggest an even worse outlook for UK activity. Recently, the OECD (Organisation for Economic Co-operation and Development) updated their growth forecast for 2023, and put the UK towards the bottom of the table in terms of economic outturn. Any more aggressive tightening could put the UK in an even worse position, in my view.

As for the GBP, its bounce against the USD and EUR still appears unimpressive in my eyes, and the risks this week are that even if the Bank of England does deliver a 50 basis point hike, it will slip back against these other majors as the growth outlook continues to worsen. What little data and survey evidence that is due for release could further compound that slippage, in my view.
 

Last week’s news from Euroland was that the economy continued to weaken in terms of important measures of business activity and consumer confidence readings. First up was the German IFO* business climate index for July, which dropped to 88.6 from a revised 92.2 in June, the lowest reading for over two years. Belgian business confidence (July), Finnish business and consumer confidence readings (July), German GfK Growth from Knowledge) consumer confidence figures and Italian consumer and business confidence readings also fell, and this culminates in the Euroland July readings which recorded falls on all the main business readings.

However, the confidence surveys contrasted starkly with the Q2 GDP (Gross Domestic Product) figures, which recorded far faster rates of growth than expected (Euroland aggregate was +0.7% quarter-on-quarter and up 4% year-on-year), with the exception of Germany, which stagnated in Q2, albeit after Q1 GDP figures were dramatically revised higher. The Euroland economic growth recorded thus far may just be Euroland playing a little catch up with other economies, and certainly the news subsequently appears to indicate that any momentum seen in Q2 has now been lost.

For this week, there has already been disappointing German retail sales figures for June and a modest upward revision to the Euroland manufacturing PMI, which still left it below 50, indicating a contraction is underway. In the rest of the week, June industrial production figures from all of the main contributors to Euroland (Germany, France, Spain and Italy) are the key focus, but likely to record a worsening in activity versus May.

With weakness in the activity figures, the euro could be under pressure towards the end of the week. Risk appetite has enjoyed a recovery lately, but with borrowing rates continuing to climb the upside for economic activity and equity values looks limited in my view. The prospects for a further recovery in the EUR, particularly against the US dollar, could be limited by just such a factor, in my view.

*Information and Forschung (Germany’s Institute for Economic Research)
 

The view from the US economy is one of deterioration. The data over the course of the last week confirmed that the US housing market continues to deteriorate, consumer confidence has also worsened, and the economy has contracted for a second successive quarter, throwing the US into a technical recession. Despite this, there are still those who suggest that the economy is not in such bad shape, and point to the strength of the US labour market as evidence. Certainly on the surface, the US labour market appears to be in robust health, but beneath the surface there are survey indicators that suggest layoffs are increasing, and the jobless claims data is on a persistently increasing trend.

The Federal Reserve’s decision to hike interest rates by 75 basis points last week should be taken in the context of the worsening economic environment. It is not difficult to understand why it is doing this, given the ongoing surge in inflation rates, but it has been clear for some time that interest rate hikes aren’t likely to resolve the supply side shock. The hike came with an indication that the Fed would not tighten rates as significantly in the future, so there appears to be a tapering underway in terms of additional monetary tightening. I can see a time in the course of the coming three to four months where the signals from the Fed alter from the need for further restrictive measures to where it indicates enough is enough.

The Fed may be aided in that switch by the non-farm payrolls data. This week concludes with July payrolls, and the headline figures should still be positive. Net payrolls are expected to be up by around 250,000, but average earnings growth is expected to slip back, and labour force participation unlikely to improve. If that is something that persists, then that could undermine the case for additional hikes or even prompt an about-turn from the Fed.

The US dollar has suffered recently, giving back some of its gains versus the likes of the euro, pound and yen, but the losses are relatively small in comparison to the USD’s gains thus far this year. For this week, there may be some additional short-term losses for the dollar, but in my view the momentum is beginning to peter out, and it would not surprise me to see the dollar bounce in the second half of the week. If the US authorities are worried about growth, the rest of the world should be even more concerned.
 

Last week saw the Hungarian central bank raise interest rates by a further one percentage point to 10.75%, and the Colombian central bank hike by 150 basis points to 9%. Neither central bank was sufficiently concerned by the weakening in global growth expectations, and remain worried by the inflation both economies are still experiencing. However, if the monetary tightening already introduced onto the economies isn’t bringing inflation back down, and yet both economies are suffering weakening confidence levels, then what will work or when will the tightening begin to bite on inflation?

That should be the question that all central banks ask this week. The Reserve Bank of Australia’s decision was due early on Tuesday, and the cash rate rose by 50 basis points to 1.85%, as expected. However the Reserve Bank of Australia Governor, Lowe, gave himself some flexibility on future monetary policy decisions, a recognition of worsening economic growth conditions. The Brazilian central bank is expected to hike the Selic rate from 13.25% to 13.75%, equalling the hike in June and suggesting the tightening pace is slackening significantly. Towards the end of the week, the Czech central bank and the Reserve Bank of India are also expected to hike interest rates, according to market consensus forecasts, but the Czech central bank might hold back from hiking, whilst the Reserve Bank of India might have to hike more as they try and protect the rupee, in my view.