Rate decisions and GBP/AUD prospects

While the eurozone seems to be dragging its heels in respect of an economic recovery, the picture for the UK looks significantly brighter.

Manufacturing PMI beat expectations earlier this week, hitting its highest level since February of 2011 with a print of 57.2. What is notable is that output and new orders rose dramatically, in fact at the fastest rate since 1994, as a result of both domestic and international demand. On the flip side, and certainly an area that should be of concern to the Bank of England (BoE), is the fact that price inflation in the commodity suite has been substantial, and certainly doesn’t point to a near-term decline in the already sticky UK CPI.

British construction activity also grew at its fastest pace in almost six years, giving further credence to signs that the UK recovery is gathering pace. The PMI rose to 59.1 in August – its highest level since September 2007.

The message from Mark Carney

The Canadian BoE governor’s first public speech addressing the business leaders at the University of Nottingham had something of a bearish tone. It highlighted that the US economy is a few steps ahead of the UK, growing 5% over the past five years, juxtaposed with the fact that the UK still produces 3% less than it did pre-crisis.

According to the governor, the UK's benchmark rate is to remain at a record low of 0.5% until unemployment falls from the current 7.8% to 7%, or for about three years. The 7% metric is not necessarily a trigger for rate hikes, however.

This and the other numerous attempts to calm bond markets by the BoE governor have been unsuccessful to date, given the spike upwards that we have witnessed. The ten-year bond yield has risen from a low of 1.61 in early May to 2.85% this week. This indicates that markets are worried about inflation (despite Carney’s protestations of how benign current rates are) and are expecting that a rate hike could, and in some respects should, be imminent.

Australian rates on hold

Down under, the Reserve Bank of Australia (RBA) kept rates at 2.5% today. Whether the bank is keeping its powder dry until after the Aussie federal elections in a few days, or has become more complacent about China’s prospects in light of recent better-than-expected data, remains to be seen.

Chinese demand for copper (a key barometer of growth) has been more robust this year than had been expected, but judging by the glut in copper supply, it might be a little optimistic to expect this buying to continue.

The absence of the phrase ‘scope for further easing’ in the RBA statement could be construed as hawkish, yet with consistently weak data and less-than-robust consumer demand, there could still be another rate cut in the final quarter of 2013. While the markets digest the more recent RBA data, sideways movement with a bent to strength looks possible for the Aussie.

Implications for GBP/AUD

Once more we return to the GBP/AUD trade, which has seen gains for five consecutive months since hitting a low of 1.4381 in March and topping out at 1.7560 last month. We are probably ripe for a correction. We are now seeing a challenge to the uptrend from the July upswing, with the 1.72 level starting to look shaky. A measured move through this level would bring us to the 1.6970 levels. A break further below this level could see 1.6750 (23.6% retracement of the entire move from the March lows) tested.

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