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UK activity slowed while Eurozone growth hit a three-year high, and cheaper energy removes a support for sterling.
The Pound to Euro exchange rate is weaker at 1.1643 after UK business activity slowed in September while the Eurozone posted its strongest reading in three and a half years.
The UK composite PMI fell to 51.7 from 52.5 in August, below the 52.0 consensus, with services accounting for the miss and manufacturing rising to 52.0.
The Eurozone composite came in at 53.1 against expectations of 51.7, a fourth consecutive increase, with services at a 10-month high and both Germany and France contributing.
"The UK composite PMI bucked the European trend," says Andrew Wishart, economist at Berenberg.
Wishart attributes the slowdown to the pass-through of 100 basis points of expected Bank of England (BoE) tightening into mortgage rates, which has squeezed house purchase demand and prompted purchasing manager reports of reduced discretionary consumer spending.
The inflationary signals in the UK data were notable and are consistent with a need for the Bank of England to raise interest rates again. UK services output prices rose to 58.2 in September from 56.9, the highest since May.
Pantheon Macroeconomics says that is consistent with underlying services inflation running above 4.5% on a three-month annualised basis, up from the latest official reading of 3.7%.
"Solid growth and surging price pressures point to a rate hike," says Rob Wood, Chief UK Economist at Pantheon Macroeconomics.
Berenberg expects Bank Rate to rise to 4.00% on 5 November.
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Daniella Arcadipane, Senior Currency Specialist at Indigo
Moving a life-changing sum abroad? You won’t be doing it alone.
GBP/EUR Exposed to Oil Price Correlations
Brent crude is below $100 a barrel after five consecutive daily declines, and Dutch TTF gas has eased to €71.25 per megawatt hour.
Iran has reportedly offered to reopen the Strait of Hormuz within seven days if the US eases military pressure, and a deal on those terms would extend the energy move that is now working against GBP/EUR.
"For now, the short-term news on the energy price outlook has improved again, due to a number of factors," says a daily note from Lloyds Bank's markets coverage team. It cites:
(a) Yesterday’s story that Iran could open the Strait of Hormuz within a week,
(b) A report that Saudi has signalled the reopening of its East-West pipeline and
(c) Trump remarking on ‘very good’ and ‘very productive’ talks with Iran whilst at the UN General Assembly.
Rising oil prices were supporting GBP/EUR as recently as Tuesday, and speak to GBP/EUR's positive correlation with energy prices since the Middle East conflict erupted in March.
Wednesday's setback in crude prices therefore pushes down on the currency, and a credible ceasefire between Iran and the U.S. will exacerbate that dynamic.
The euro is particularly vulnerable to rising energy costs, owing to the Eurozone's large manufacturing and industrial base. Lower energy costs are therefore stimulatory for the zone's economy and feed into a firmer euro.
Above: GBP/EUR (top) and Brent crude prices.
The ECB's case for raising interest rates nevertheless is set to endure, owing to resilient domestic demand that is underpinning higher inflation.
"Higher energy input costs and resilient demand make it almost inevitable that the European Central Bank will hike rates by another 25bps on 17 December or, possibly, already on 29 October," says Wishart.
Markets price 75 basis points of ECB tightening to 3.25% over the next twelve months, above the 1.75% to 3.00% neutral range the central bank estimates.
Sterling carries the greater repricing risk, with analysts questioning whether the BoE delivers the 100 basis points priced and Deutsche Bank turning seller of the pound this week on the bet that any hike will be classified as a 'dovish' one.
Daniella Arcadipane, Senior Currency Specialist at Indigo
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