Today’s preliminary UK GDP estimate from the ONS showed an upward surprise with growth of 0.4% in Q3, beating expectations of 0.3%. Sterling shot upwards above $1.3250 on the news as the pathway for a rate hike at the Bank of England’s November 2nd meeting looks to be a sure thing. The futures implied probability of a November rate hike is now 89.2%.
The 0.4% pace of growth is similar to the previous two quarters. While beating expectations this time, the rate is nonetheless distinctly underwhelming, with the first three quarters of the year the worst since 2009. To put it in perspective, the typical pace is 0.7%. The YoY growth rate of 1.6% compares to a 2.5% expansion in the U.S., and confirms the narrative of the UK underperforming relative to the rest of the world’s advanced economies.
The main contributor to growth was the services sector, comprising 0.29% of the overall growth figure, though at 0.4% it was nevertheless half its pace before the great financial crisis. Growth in the services sector was led by a 1.9% contribution from the large computer programming component, with other contributions from car sales and the retail trade.
All four production sectors grew with industrial production returning to growth of 1.0% after a weak Q2. Manufacturing saw growth across many industries such as transport equipment, repair and machinery and equipment. Construction stood out as the laggard, falling by 0.7% after a decline of 0.5% in Q2; its worst performance in five years.
While far from spectacular, the growth was broad based and reflects a steady pace this year. And the economy certainly appears to be outperforming relative to the Bank of England’s predictions when Mark Carney cut rates after the Brexit vote. That supports the case that the economy does not need that emergency support, and so the rate cut can be reversed. The concentration of the growth in the services sector poses another justification for raising rates. The fact that car sales and retail trade were significant contributors to growth despite real disposable incomes being squeezed by inflation of 3% points to the damaging effects that easy money can have on an economy. Unsecured consumer debt levels are now around the highs before the financial crisis at around £200 billion.
Carney’s argument is that the economy is operating near peak capacity in this post-Brexit world. Nominal and core inflation are far above target and the unemployment rate is 0.2% below the level the BOE deems sustainable in the medium term. Carney fears that improvements to growth will lead to unjustifiably high levels of inflation. Many would argue the high inflation will be substantially unwound next year as the currency effect is removed from the data. But whichever way one looks at it, a November rate hike seems justified on these figures.