UK jobs inflation figures amp short sterling contract

One day after UK inflation reported the highest increase in 20-months in June to 1.9% y/y, the May unemployment rate and the number of jobless claims hit fresh 6-year lows, at 6.5% and 1.04 mln respectively. The claimant count fell for the 20th consecutive month. Total employment rose by 254K to 30.6 mln in the three months ending in May. Short sterling remains near 2-year lows as UK interest rate expectations grow further, suggesting a rate hike could occur as early as November.

The main negative to the report was on the pay side, as average weekly base pay rose just 0.3% in the three months ending in May from 0.8%, the slowest in five years. This was partly due to falling bonuses compared to last year as employers delayed payments until April to avoid a cut in the top tax rate. Earnings growth excluding bonuses, slowed to 0.7% from 0.9%. Real wage growth, adjusted for inflation, stands at -1.2%, remaining in negative territory for the past six years.

Most economists expect wage growth to pick up in the second half as labour market improvement takes hold and slack is indeed eroded. Consumption growth, stronger disposable income and inflation

Real differentials in 2-year govt bond yields (yield minus inflation) have helped explain currency performance over the last 2 years, including sterling’s strength since last autumn. Sterling’s yield superiority is underscored by higher gilt yields and moderate inflation. UK 2-year yields exceed their US and Eurozone counterpart by 0.38% and 0.76%. And with UK inflation standing at 1.9% compared to 1.5% in the US (core PCE price index), UK yields may have to push higher to make up for the anticipated inflation differential as prices regain keep up with the pace of the UK economic and business expansion.

Falling short sterling contract & tumbling EURGBP

With UK inflation picking back up and unemployment rates staying down, the path of interest rate expectations remains on the rise. Sterling’s 3-month interest rate contract (known as short sterling) has declined two-year lows (inversely related to interest rates), nearing its 200-week moving average for the first time since 2008. For EURGBP, the 5-month uninterrupted five-month decline may extend towards the next support of 0.77. And as ECB officials broaden their talking down of the euro this summer, selling euro may remain path of least resistance—even against the rising pound. That is especially as the divergence in UK and Eurozone monetary policies ensues further and Scotland fails to vote for independence in September. A new wave of GBP-bullishness could trigger an additional 6% decline to 0.73.

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