The UK currency has fallen sharply in the last week. After being considered one of the strongest currencies in the G10, it has been the second worst performer in the last 2 weeks, just ahead of the New Zealand dollar.
This Wednesday is jam-packed full of event risk for cable traders, first up we have the latest labour market and wage data along with the March BOE minutes, then at 1230 GMT/ 0830 ET we have the last UK Budget before the May election. Here is our take on the Budget:
What to expect:
The short answer is not much. Chancellor George Osborne has stressed in recent days that there will be no giveaways in this Budget and we expect it to be fiscally neutral and maintain the underlying tightening and focus on balancing the UK’s public sector books in the next few years.
Overall, this election is likely to be more politically focused than economically focused as the UK’s general election is less than two months’ away. However, the Treasury has sign-posted some changes that could be delivered in this Budget including:
- A major tax cut for North Sea oil companies as a result of the falling oil price. This sector pays some of the highest rates of tax, so a cut could boost investment during this challenging time for the commodity sector.
- Raise the minimum wage by 3%, or GBP 0.2 per hour.
- Invest in ultra-fast broadband around the UK.
- Give the go-ahead for 45,000 new homes.
- New enterprise and tech zones to be announces around the country.
- Further changes to pensions that will allow pensioners who have saved for a pension to remove it all as a lump sum in retirement. (A clear attempt to woo older voters).
The Office for Budget Responsibility (OBR) will also release its latest forecasts for growth and the UK deficit; this is where we could get the good news:
- Growth is expected to be revised higher.
- The deficit is expected to be revised lower than it was in the Autumn Statement.
- The deficit reduction is likely to be driven by an increase in revenues to HM Treasury. The OBR could forecast higher revenues on the back of higher growth and lower oil prices.
Overall, we expect the borrowing undershoot to be small, approx. 0.2-0.3%, which could limit any pre-election giveaways, however Osborne could try to sneak a couple in, including:
- A small increase in the personal allowance, by approx. GBP 200. The personal allowance is increasing to GBP 10,800 in April, so this increase could take it to the symbolic GBP 11,000 level.
- A slowdown in the pace of government cuts. This could be a particularly political move as it could ease the opposition’s attacks on the Conservative’s austerity measures.
The market impact:
It is hard to gauge ahead of time how the Budget, particularly one that is so close to the election, will impact the markets; however there could be some announcements to watch out for including:
- North Sea Oil tax cut: this has already given the FTSE 100’s energy sector a boost, it is up more than 2% on Tuesday The size of the tax cut is still unknown, so once we get confirmation we could see further stock market movement. If the tax cut is considered too small then we could see today’s gains for the energy sector eradicated, while a more generous cut could trigger another move higher, as this sector has been under intense pressure in recent months. See fig. 1.
- Hike to the minimum wage: We doubt that 20p per hour will have an impact on the pound, which continued to fall against the dollar on Tuesday after the announcement. However it could stem the pound’s decline if it comes on the back of strong wage growth, which is released earlier on Wednesday.
- Forecasts: a boost to UK growth forecasts and a slowdown in the pace of government spending cuts could cause a moderate rise in the pound and the FTSE. However, these are only forecasts and, as we know only too well, they can be revised in the future. Unless we see large forecast revisions, we don’t expect the OBR data to have too much of a market impact.
Can the pound be saved?
As we mention above, the pound has been a weak link in the G10 FX space over the past couple of weeks. After falling through 1.50 it sliced through 1.4815 – the low from 2013 and, at the time of writing is below 1.4750, the lowest level since June 2010.
The main reason for the pound’s decline, aside from dollar strength, is political uncertainty. Although the general election is still 2 months away, this is having a broad-based impact on the pound and even the EUR has been clawing back recent losses against GBP.
From a fundamental perspective, the labour market data is likely to have a bigger impact on the pound than a net-neutral budget, in our view. The wage data is key; the market expects the annual rate to rise to 2.2%, which would be the largest real wage rise (when adjusted for inflation) since 2007 see fig. 2. This could increase pressure on the BOE to hike rates at some stage this year. We will also be watching the BOE minutes to see if any of the members are starting to get concerned about wages and strong jobs growth.
From a technical perspective, momentum in GBPUSD appears to be on the downside, and short positions in the pound increased last week. After breaking a key support area between 1.4952 – 1.4814 (2013 low), the technical picture is now negative. This opens the way to further downside, especially as we lead up to the General Election in May. Key levels include:
- SUPPORT: 1.4332 –LT support, the low from May 2010, after the last election.
- SUPPORT: 1.40 – LT support and a key psychological level.
- RESISTANCE: 1.4880 – ST resistance and Monday’s high.
- RESISTANCE: 1.4902 – hourly ST resistance level.
- This Thursday’s Budget could have a bigger impact on the FTSE 100, especially the energy sector, than the pound.
- Overall, we expect this to be a political budget rather than an economic one, which could limit the market impact.
- Momentum is to the downside in the pound, and GBPUSD is faltering as we lead up to the Budget.
- We could see further downside as political uncertainty starts to bite ahead of the May election.
- The outcome of Wednesday’s FOMC meeting will also impact the pound, so once the Budget is out of the way turn your focus to the US.
Figure 1: Can a Budget tax boost for the North Sea oil sector help the FTSE 100 play catch up with the S&P 500?