The flash PMI releases due on Friday (9:30 GMT) for the United Kingdom will be highly significant as they could be the deciding factor for the Bank of England ahead of their rate setting meeting on January 30. There have been strong hints lately from BoE officials that a rate cut is very much on the table at the upcoming meeting after the economy stagnated at the end of 2019. But with much of that slowdown being attributed to political uncertainty ahead of the snap election on December 12, the extent to which growth rebounds in January will be the focus for investors from the PMI data. Hence, any surprises in the numbers are bound to trigger big swings in the pound.
Dovish voices getting louder
The Bank of England doesn’t have the best track record when it comes to the accuracy of its economic forecasts. However, there has been no denying by BoE policymakers in their recent comments that the economy took a bigger turn for the worse than anticipated in Q4 and that a fresh shot of stimulus may be required. The unexpectedly dovish remarks, including from Governor Mark Carney, took many traders by surprise, knocking the pound lower.
But while there is no doubt that the Brexit uncertainty and political turmoil ground growth to a halt in Q4, it’s likely that the decisive outcome of the general election brought with it a turnaround in business sentiment. There’s already some evidence of this from the latest CBI survey released on Wednesday that shows optimism in the manufacturing sector improved at its fastest pace in six years in the quarter to January.
Further casting doubt about the fragility of the economy were much better-than-expected employment numbers for the three months to November. A strong labour market implies the alarmingly weak consumer spending observed in Q4 is likely to have been temporary and should recover soon as rising wages boost household incomes.
A post-election lift?
But a more reliable gauge on how well the economy bounced back after the election will be the flash PMI surveys by IHS Markit/CIPS. The manufacturing PMI is expected to have increased from 47.5 to 48.9, while the more important services PMI is forecast to have edged up from 50.0 to 51.0 in January.
If the flash PMIs point to a much sharper pickup in growth than the forecasts suggest, the pound could continue to retrace its year-to-date losses. But in order to extend the rebound, the bulls would need to overcome immediate resistance at the 23.6% Fibonacci retracement of the September-December uptrend at $1.3147, before aiming for December’s 19-month top of $1.3514.
A bigger move could come about, however, if the data miss expectations, as they would all but confirm a rate cut, sending the pound spiralling downwards. A key barrier to the downside is the 38.2% Fibonacci at $1.2919. If broken, it would shift attention to the 50% Fibonacci at $1.2736.
One eye on slowing inflation
Ultimately, though, the real question for the BoE will be how the recent string of poor data affect their outlook for inflation. The consumer price index fell to a three-year low of 1.3% year-on-year in December, uncomfortably below the Bank’s 2% target. Even if the PMI numbers were to ease concerns about a deepening slowdown, policymakers may judge that the economy would still need a helping hand to push up inflation back towards 2%.
