Yesterday, the UK government announced their Autumn Statement and their plans for a significant tightening of fiscal policy, as they continue to seek to restore investor confidence in the Gilt market.
Since the negative mini-Budget shock in late September, market conditions in the gilt market have dramatically improved. The gilt market’s yields have already returned to lower levels than they were before the publishing of the mini-Budget. The BoE has even been able to stop providing direct support to the gilt market and start effectively offsetting their QE holdings by selling gilts into the market. The UK bond market appears to be holding even after yesterday’s Autumn Statement and is generally in a corrective phase.
That leads us quite nicely onto the UK government’s Autumn statement. The two areas that i’m paying attention to at the current minute is:
– Changes in the ‘Economy’.
– Changes in ‘Government Spending’.
Economy:
“The Office for Budget Responsibility judges the UK to be in recession, meaning the economy has slowed for two quarters in a row, and predicts growth for this year overall of 4.2%, but the size of the economy will shrink by 1.4% in 2023. The inflation rate is predicted to be 9.1% this year and 7.4% next year. Unemployment is expected to rise from 3.6% to 4.9% in 2024”.
“The Government will give itself five years to hit debt and spending targets, instead of three years currently to stimulate growth in the economy, which is predicted to be a growth of 1.3%, 2.6%, and 2.7% in 2024, 2025 and 2026” – BBC news.
Government spending:
“Scheduled public spending will be maintained until 2025, but then grow more slowly than previously expected” – BBC news.
A lacklustre of UK GDP growth may in hindsight lead to renewed calls for new government spending to stimulate the economy. However, With inflation at 11.1% (Apparently) in the UK, it doesn’t give the BOE or the UK government any real room to start cutting tax, VAT or interest rates in order to move the economy out of a recession. In my opinion, this will most likely get worst before it gets better in the UK.
However, as a pro-cyclical currency, the UK’s multi-quarterly recession and the BOE’s confirmed intent to raise interest rates through 2023 cannot be favourable conditions for the GBP. Additionally, if Hunt attempted to back-load fiscal tightening, Gilts and the GBP would sink in value.
Overall, we anticipate a harsh short squeeze in the near term that will push the GBP/USD to 1.2000. That squeeze shouldn’t last long, though, as we continue to be GBP bearish going into 2023.