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British Pound Finds Relief as GDP Data Confirms UK Still Outperforming G7 Rivals

The UK economy should be commanding a firmer currency as the ONS reports healthy economic growth figures.

Economic growth should be commanding a stronger pound

The UK economy continues to march forward with the ONS reporting GDP growth of 0.5% the second estimate of their fourth quarter GDP figure. The annual figure stands at 2.2%.

The UK is therefore at the top of the G7 growth race for the final 3 months of 2015, the closest rival Germany’s 0.3% expansion.

The data reinforce the contrast between growth in 2013 and 2014 – averaging around 0.7% per quarter – and its slower pace in 2015, averaging 0.5% per quarter.

"That slower growth momentum over the course of 2015 questions whether the rate of absorption of the economy’s spare capacity is sufficient to result in meaningful upward pressure on domestic costs," say Lloyds Bank.

Nevertheless, Lloyds say the expenditure breakdown in the data provides some reassurance that domestic demand momentum remains broadly firm, boding well for ongoing expansion in 2016.

Whether or not this data was the reason behind the pound’s recovery against the euro and US dollar today is questionable.

The pound to euro rate has risen to 1.2683 from the previous day’s close at 1.2646.

The pound to dollar exchange rate has risen to 1.3947 from a previous day’s close at 1.3929.

In both pairs the trend remains firmly to the downside.

“Sterling steadied above seven-year lows, catching a bit of a breather after a spectacular plunge this week shoved it below $1.39. Any respite for the pound appeared short-lived as decidedly poor sentiment would leave it ripe for renewed selling,” says Joe Manimbo, analyst with Western Union.

The Pound Should be Doing Better, But There is One Big Problem

The sharp declines in the pound come against the background of an economy that is outperforming its rivals.

"With GDP still estimated to have risen by a quarterly 0.5% in Q4 of last year, the UK recovery is still looking solid, but unspectacular. A number of clouds loom on the horizon, but we don’t think that a sharp slowdown is in store," says Vicky Redwood, Chief UK Economist at Capital Economics.

Of course it is the spectre of a UK exit from the European Union is fuelling the undervaluation in the currency.

HSBC forecast growth in the UK to be halved in the event of a Brexit, their current forecasts for growth are of 2.3% for 2017.

"A large post-Brexit uncertainty shock could hit investment and the currency, weighing on activity and pushing up inflation,” says Simon Wells, Chief UK Economist at HSBC, “GDP growth could be around 1.0-1.5pp lower in mid-2017, roughly halving our 2.3% forecast for next year."

HSBC say economic and political uncertainty would rise sharply, slowing economic activity.

However analysts admit that in the immediate aftermath of a vote to leave the EU it would be unclear what a Brexit would look like.

“As we have argued for some time, the implications of a ‘soft exit’ (where the UK remained in the European Economic Area or maintained strong ties with the EU) could be very different to a ‘hard exit’ (where the UK withdrew fully from the single market),” says Wells.

Brexit Fears Already Having an Impact on Growth

The latest data from the ONS confirms UK economic growth is gradually easing off the back of slowing investment and private consumption.

“We expect firms to continue to be cautious regarding investment decisions in light of the EU referendum risk, resulting in further reduced business investment in the run-up period,” says Andrzej Szczepaniak at Barclays.

Analysts at the Warwick Business School Forecasting System (WBSFS) have meanwhile released their latest findings on the UK’s growth outlook.

The WBSFS suggests downside risks to economic growth and inflation are growing and now believe there to be a 10 per cent chance of growth of less than one per cent in 2016, compared to a six per cent chance a quarter ago; and a 45 per cent chance of growth of less than two per cent, relative to a 28 per cent chance a quarter ago.

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