UK government expected to announce modest fiscal stimulus - MUFG

Lee Hardman, Currency Analyst at MUFG, suggests that the stronger US dollar is helping to cap upside for cable while the pound has been strengthening as well more broadly.

Key Quotes

“The BoE’s recent shift to a neutral policy bias driven by heightened concerns over upside risks to inflation from pound weakness has helped to ease downside risks for the pound in the near-term.”

“The UK government is also expected to announce a modest fiscal stimulus in next week’s Autumn Statement creating a more favourable policy mix for the pound. In comparison to the significant fiscal stimulus which is expected under President Trump in the US, the UK government is likely to announce only a modest fiscal stimulus offering more limited support for the pound. Yet the government is also expected to leave the door open to further fiscal stimulus if growth was to slow more sharply in the coming years. The new “flexible fiscal framework” will allow the government to respond to the impact of Brexit uncertainty.”

“The resilience of the UK economy since the Brexit vote is one reason why the government is likely to ease fiscal policy only modestly. The latest labour market report released yesterday provided further evidence that the negative fallout has been limited so far. The report revealed that employment growth moderated in Q3 following strong growth in Q2 which may in part reflect greater caution amongst employers to hire following the Brexit vote. However, pre-Brexit vote fears that it would trigger an increase in unemployment have not yet materialised. The number of unemployed decreased by a further 37k in Q3 extending the decline to 146k over the last year. As a result, the unemployment rate declined to a new cyclical low of 4.8%.”

“The government will also be wary of easing fiscal policy more significantly given that the budget deficit in the UK still remains elevated at over 4% of GDP. The FT has reported today that the updated forecasts from the OBR will likely show an additional GBP100 billion shortfall in government revenues over the forecast period resulting mainly from their outlook for weaker growth and higher inflation. The government will have to redefine its fiscal targets as it is clearly set to fail to achieve a budget surplus by FY2019/20. The government does not appear willing to make a more dramatic shift in fiscal policy as evident by comments from Chancellor Hammond at the Conservative Party conference when he sent a clear message that “the task of fiscal consolidation must continue”. He signalled that the government will focus on “targeted” decisions around very high value infrastructure investment.”