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Pound Sterling Pares Gains After UK Manufacturing and Industrial Production Data Disappoint

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“It will be difficult to get a clear reading from the output data of Q1 growth for a few months – given the likely distortions from severe weather at the end of February – survey measures broadly suggest the economy should maintain Q4’s pace." - Capital Economics.

The Pound pared earlier gains over the Euro and US Dollar during morning trading in London Friday after Office for National Statistics data showed UK industrial sectors growing at a slower pace during January than markets had expected.

UK manufacturing production grew by a lowly 0.1% during the three months to the end of January, a slower pace than the 0.3% seen in December and beneath the market consensus for an expansion of 0.2%.

While the headline manufacturing number may have disappointed traders, the January data represent the ninth consecutive period of growth for Britain’s industrial firms, which makes the post-referendum expansion the longest uninterrupted period of growth for UK manufacturers since ONS records began in 1968.

Separately, and on the downside, growth in the broader measure of overall industrial production, which includes a range of industrial sectors, also disappointed with an expansion of 1.3% for the month. Economists and traders had been looking for growth of 1.5%.

The ONS attributes the downbeat performance to the shutdown of the Forties oil pipeline in the North Sea having been a continued drag on activity and output. This appears to be a temporary phenomenon that should be corrected over the coming months.

“The level of output over the two months together was flat. And the meagre 0.1% rise in manufacturing output saw the three-month on three-month growth rate slow from 1.3% to 0.9%, suggesting Q4’s robust 1.3% quarterly rise may not be repeated in Q1,” says Paul Hollingsworth, a UK economist at Capital Economics.

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Construction Slump Deepens, Trade Balance Widens

More worryingly for economy-watchers, the UK construction industry was shown undergoing a severe slump at the start of the New Year, with output falling by -3.4% when markets had expected a much smaller -0.4% contraction.

This marks the steepest fall for the industry since March 2013, before the UK’s economic upturn really took hold, and leaves the industry in recession at the start of the year. The fall was the result of a continued decline in commercial construction activity.

Construction is Britain’s third largest economic sector. Much of its earlier weakness was the result of commercial construction being hindered by Brexit uncertainty and oversupply of new office space in key business hubs like London. Residential activity has remained robust, in broad terms. 

Friday’s numbers are important for the Pound because manufacturing and other industrial sectors have taken on increased importance to the UK economy since the Brexit referendum of 2016, being the few areas to have benefitted from the double digit devaluation of the British currency.

“It will be difficult to get a clear reading from the output data of Q1 growth for a few months – given the likely distortions from severe weather at the end of February – survey measures broadly suggest the economy should maintain Q4’s pace. And we still see scope for solid GDP growth of 2% or so in 2018 as inflation falls back and consumer’s real wages begin to rise,” Hollingsworth adds.

On this note, the devalued Pound and a global economy that is in rude health were not enough to prevent the UK trade deficit from widening during January. The total trade in goods and services deficit widened by £0.6 billion to -£3.1 billion in the first month of the year.

“Large decreases in fuels export volumes combined with increases in fuels import prices had the largest impact on the widening of the trade in goods deficit in the three months to January 2018,” the ONS says.

Sterling was quoted 0.02% higher at 1.3805 against the US Dollar following the release Friday while the Pound-to-Euro rate was 0.02% higher at 1.1219. This was after Sterling pared back an earlier gain that was close to +0.10% against both rivals.

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Gloomy Economic Stats are Stacking Up

UK data thus far in the New Year has pointed toward softer UK economic activity, leading some to speculate the economy may have slowed a touch further in the first quarter.

Monday’s service PMI will be welcomed by economy-watchers as it showed Britain’s largest economic sector enjoying a rebound in February, with new orders picking up while firm costs fell resoundingly after more than a year of rising inflation pressures.

Monday’s data came closely on the heels of surveys of both the construction and manufacturing industries which, however, yielded mixed messages for the economy.

Conditions in the beleaguered construction industry improved a touch during the month, with the PMI index posting a surprise increase, driven by a recovery in commercial building activity. The commercial segment has been a weight around the ankles of UK construction ever since the Brexit referendum of 2016.

This followed the IHS manufacturing PMI, which saw the manufacturing index slip for the third consecutive month as production slowed in February, while export order book growth also moderated a touch.

"Taken together with the fall in the manufacturing PMI and rise in the construction one, published last week, the all-sector index points to quarterly GDP growth broadly holding steady at about 0.4% in Q1," says Hollingsworth.

"Admittedly, the survey was conducted between 12th and 26th February, and so won’t have taken into account any disruption related to the severe weather conditions over the past week."

The PMI data follows a flurry of other gloomy news for the UK, its economy and currency. Nationwide Building Society data released last Thursday showed UK house prices falling 0.3% in February, following a brief and surprise pickup in January.

The mortgage data followed an Office for National Statistics report that showed the UK economy grew slower than was previously thought during the final quarter of 2017.

ONS says UK economic growth was in fact 0.4% during the final quarter, not the 0.5% previously suggested by the ONS, dealing a blow to observers who had cheered a last minute lift in UK economic momentum during 2017.

The annual pace of growth was also downwardly revised, from 1.8% to 1.7%, with the revised number marking a fall from the 1.9% growth seen back in 2016. That was the result of revisions to industrial production figures, which were hit by the closure of a key oil pipeline in the North Sea.

This data came closely on the heels of the fourth quarter labour market report, which showed the unemployment rate rising for the first time since July 2015. The ONS attributed this to a rise in the participation rate rather than an increase in job losses.

All of this matters for the Pound because it could impact on the Bank of Englandand its thinking about whether the UK will be able to sustain another rise in interest rates. It hiked the base rate by 25 basis points already, to 0.50%, in November.

For what it’s worth, the fourth quarter growth performance was in line with the BoE’s forecasts and it’s well known now the bank’s primary concern is inflation, which sits stubbornly at 3%.

So far, the bank says it’s taken heart from the broad fall in unemployment over recent years, which is now beginning to push wages higher, and because of this it is less willing to play it cautious by holding back on interest rate rises.

Nonetheless, a further deterioration in UK economic conditions, particularly around unemployment and Brexit, may change this.

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