Inflation and employment growth increase pressure on the Bank of England

September 18, 2017

The Bank of England began last week by warning the market that interest rate rises may come faster than anticipated. This was then reiterated on Thursday and Friday and appeared to have the desired impact. Gilt yields rose sharply as market participants begun to price in the impending interest rate increases. This had a knock on impact on the Sterling, which also rallied strongly. The currency is now trading at its highest level versus the dollar since the EU referendum vote at around $1.36. While higher interest rates will make the currency more attractive to foreign investors, there will undoubtedly be ongoing concerns over the Brexit process and uncertainty over what the final relationship with the EU will be.

UK unemployment continued lower in July, reaching 4.3%. The lowest rate since 1975. This was driven by a strong growth in employment as the participation rate also increased, indicating that a greater proportion of the working population are economically active. However, the tighter labour market is still yet to filter through to stronger wage growth. The annual change in average earnings was steady at a rate of 2.1% in July, lower than the rate of inflation and representing a real terms pay cut. However, indications of a relaxation in public sector pay caps, a falling rate of immigration and persistently strong growth in employment will add significantly to wage pressures going forward.

The UK’s inflation rate climbed to its joint highest in more than five years in August as the price of petrol and clothing rose. UK inflation measured by the Consumer Prices Index rose to 2.9% in August, up from 2.6% in July. While July’s figures came in below expectations, the strong rebound in August was more than expected. However, most economists anticipate that inflation will ultimately peak at below 3.5% before falling back below the 2% target in the medium term as the slowing economy takes its toll.

Index Open Close Change % Change
FTSE 100 7377 7215 -162 -2.20%
S&P 500 2461 2500 39 1.58%
Dax 12303 12518 215 1.75%
Cac 40 5113 5213 100 1.96%
Nikkei 225 19274 19807 533 2.77%
UK 10 Year Gilt Yield 0.99 1.31 0.32 32.32%

UK retail sales figures for August will be announced on Wednesday along with the Federal Reserve interest rate release.