Major Overnight Headlines
• UK Q1 current account deficit revised to 21.8bln from 14.5bln; Q2 at 13.0bln versus 11.0bln expected
• ECB says private sector loans fall ‘most on record’ in August, non-financial corps. down 3.8% YoY
• Japanese panel advises GPIF to review its holdings of domestic bonds, Bloomberg
There are probably at least two mitigating factors nestled within the data on the UK’s external position. First, despite the huge and persistent drag from net trade, the Q1 weakening of the balance of payments was very much driven by a significant deterioration in the balance on income, which at times can be noisy. It’s not always a ‘structural factor’, and it therefore appears to have been largely corrected in Q2.
Second, relative to many Euro Area countries, the UK is an economy non-residents like to invest in. It’s innovative, entrepreneurial, liberalised and the government takes a relatively ‘hands-off’ approach. Therefore, a financial account surplus can at times drive the current account deficit, if inward investment triggers more growth and domestic demand at home. However, what the weak business investment spending data suggest is that only a very small portion of the UK’s current account deficit is actually being driven by trade flows which will support better, more sustainable growth over the long-term. As time passes, this fact should remain an important mitigating factor on GBP strength unless it is corrected. Moreover, further domestic asset price appreciation is – if anything – more likely to halt any improvement in net trade over time.
On a sector-by-sector basis, it is right that the quarterly contributions to total UK output growth have been broad-based, with production, construction and services all adding to growth. This is problematic for those arguing that UK growth is purely being driven by the phenomena of rising asset prices or housing. But the national accounts data don’t reveal how much of the improvement – particularly in services – is actually due to those phenomena. Nor does it provide very many clues as to how important the high level of stimulus already in the system has been. We know what would happen to construction activity, but what would happen to that of the vital services sector if asset prices started to fall back?
If these phenomena are very important for causal reasons, it’s difficult to see how Britain’s external position will improve much if the trade-weighted value of the GBP continues to rise over time. As it stands now, virtually every piece of data you would want to be firm in order to justify as strong currency just isn’t.
Read the full report: FX Daily
BMO