UK Budget Time

October 30, 2024
6 min read

UK Budget Time

  • U.K. government is expected to boost gilt issuances and introduce a major package of tax hikes. GBP faces downside risk.
  • U.S. and Eurozone Q3 GDP are due today. Growth is expected to be solid in the U.S. and subdued in the Eurozone.
  • Australia inflation slowed in Q3 but not enough to justify an RBA rate cut by year-end. Look to bottom-fish AUD.

USD and 10-year Treasury yields have pullback from their highs. Yesterday’s U.S. economic data releases were mixed but still suggest there is room for Fed funds futures to adjust in favor of a higher USD and Treasury yields.

The JOLTS September report pointed to softer labor market conditions. The Job opening rate fell 0.2pts to 4.5% matching the December 2020 low. Fed research showed that the unemployment rate tends to rise faster when the job opening rate falls under 4.5%. The layoff rate ticked up 0.2pts to an 18-month high at 1.2% and the quit rate fell 0.1pts to 1.9%, lowest rate since June 2020, indicative of worsening workers confidence in finding a new job.

Encouragingly, the hiring rate rose 0.1pts to a four-month high at 3.5%. Also, the Conference Board labor index (jobs plentiful minus jobs hard to get) rose to 18.3 in October, the highest since June 2024, suggesting consumers are more optimistic about future labor market conditions.

Meanwhile, the U.S. Conference Board consumer confidence index improved more than expected to a nine-month high at 108.7 (consensus: 99.5) vs. 98.7 in September. The headline index remains within the same narrow range that’s held throughout the past two years. But the expectations index surged 6.3 points to 89.1, the highest level since December 2021, and indicative of a resilient household spending activity. Indeed, positive U.S. real wage growth, encouraging labor demand, and strong household balance sheets suggest household spending will remain an important tailwind to GDP growth.

The U.S. spotlight today is on the Q3 GDP report (12:30pm London). Real GDP is expected at 2.9% SAAR vs. 3.0% in Q2, which is above the pre-pandemic average annual growth rate of 2%. Of note, the Atlanta Fed GDPNow model estimates Q3 growth at 2.8% SAAR while the New York Fed GDP nowcast model estimates Q3 growth at 2.9% SAAR. ADP private sector jobs estimate will also be reported today and is expected at 111k vs. 143k in September (12:15pm London).

GBP is surprisingly firm despite U.K.-German 10-year government bond yield spreads widening to fresh multi-month highs at 198bps. We prefer to fade GBP outperformance ahead of today’s U.K. budget (12:30pm London).

First, the U.K. government is expected to sell more gilts to fund an increase in investment spending. Median forecast is for 2024/2025 gilt issuance to increase by £15bn, taking total borrowing to £293bn vs. £239bn the previous fiscal year. This can worsen the risk premium on gilts and undermine GBP.

Second, the fiscal stance (as measured by the change in the cyclically adjusted primary deficit) will likely be tighter as Chancellor of the Exchequer Rachel Reeves plans major tax increases. Tighter fiscal policy can leave the Bank of England more room to ease policy and weigh on GBP. The combination of restrictive fiscal policy and looser monetary policy tends to be drag on a currency.

EUR/USD recovered above 1.0800. Nevertheless, stagnating Eurozone economic activity and quickening disinflationary pressures support the case for the ECB to speed up its easing cycle which can further weigh on EUR.

Eurozone headline real GDP growth is expected at 0.2% q/q vs. 0.2% in Q2 (10:00am London). Forward-looking survey indicators point to downside risk to growth. The country breakdown shows German real GDP expected at -0.1% q/q vs. -0.1% in Q2 (9:00am London) and Italy is forecast at 0.2% q/q vs. 0.2% in Q2 (9:00am London). In the meantime, France and Spain real GDP growth overshot expectations. France grew 0.4% q/q (consensus: 0.3%) vs. 0.2% in Q2 because of the boost from the Olympics while Spain rose 0.8% q/q (consensus: 0.6%) vs. 0.8% in Q2.

The Eurozone October preliminary CPI is due tomorrow. But Germany and Spain report their EU harmonized CPI prints today. German CPI is expected at 2.1% y/y vs. 1.8% in September (1:00pm London). Spain CPI matched consensus and rose to 1.8% y/y vs. 1.7% in September.

USD/CAD is trading at the top-end of a broad multi-year 1.3000-1.4000 range. The Bank of Canada’s (BOC) dovish policy stance will continue to weigh on CAD. BOC Governor Tiff Macklem reiterated yesterday the bank’s guidance that “we anticipate cutting our policy rate further.” Indeed, the BOC has plenty of room to cut rates further. At 3.75%, the BOC policy rate remains above the bank’s nominal neutral interest rate estimate of 2.25% to 3.25%.

AUD/USD continues to edge lower and is eyeing support at 0.6500. Australia inflation slowed in Q3 but not enough to justify an RBA rate cut by year-end. Headline CPI rose less than expected by 0.2% q/q (consensus: 0.3%) vs. 1.0% q/q in Q2 and inflation eased at an annual pace of 2.8% (consensus: 2.9%) vs. 3.8% in Q2. Similarly, the monthly CPI indicator undershot expectations dropping to 2.1% y/y in September (consensus: 2.3%) vs. 2.7% in August. The sharp slowdown in headline CPI inflation reflects the government’s cost-of-living subsidy measures that led to a large fall in electricity prices.

The slowdown in the more policy-relevant trimmed mean CPI matched consensus and supports the RBA’s restrictive for longer policy stance. Trimmed mean CPI printed at 0.8% q/q vs. 0.9% q/q in Q2 (revised up from 0.8%). Annually, trimmed mean CPI inflation fell to 3.5% (lowest since Q4 2021) vs. 4.0% y/y in Q2 (revised up from 3.9%) and tracking the RBA’s December projection of 3.5% y/y. The monthly trimmed mean CPI indicator is lower at 3.2% y/y (lowest since January 2022) vs. 3.4% in August. Nonetheless, the RBA focuses on the quarterly CPI prints because it’s less volatile and captures more items than the monthly CPI indicator. RBA cash rate futures implies less than 20% odds of a 25bps cut by December.

We would look to bottom-fish AUD/USD around current levels. AUD/USD has undershot the level implied by real 10-year Australia-U.S. bond yield spreads and China is expected to unveil details of its fiscal stimulus pledge next week. Reuters reported that China is looking to approve over 10 trillion yuan (8% of GDP) in additional borrowing in the coming years to support economic activity. For reference, China’s 2008 fiscal bazooka which prevented a recession totaled 4 trillion yuan (12.5% of GDP in 2008).

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