The UK was no outlier, with the composite output index dropping to 48.6 from 50.7 in July. This is just below the contraction threshold and, on past form, consistent with an underlying fall in GDP of around -0.1 to -0.2% q/q. Strong June numbers may still help 2023 Q3 GDP, but economic activity continues to stagnate as rising borrowing costs and, for many, ongoing cost of living pressures weigh on demand.
Embedded wage growth, which we proxy by averaging expectations and realisations, now runs at a 5.9% y/y rate. We would argue that the Bank is really in the clear when realised wage gains fall short of, or at the very least align with, expected wage gains.
Looking ahead, the surveyed firms expect output price inflation to fall to 4.4% over the next year, down sharply from the >5% figures seen earlier in the year. It suggests that headline CPI inflation should continue to fall, aided by lagged favourable base effects from regulated energy costs, to approximately 5.5% on average in Q4. Core inflation will likely prove more persistent. We forecast that measure dipping under 6% only in the winter.
All that being said, we think the Bank of England will seek to accommodate the downshift in market pricing by setting a lower bar for pausing hikes than in August. We therefore expect another 25bp rise in September to 5.50%, followed by a long hold to evaluate the impact of past tightening. Risks remain tilted toward inflation overshooting the 2% target for longer as long as labour markets remain tight. This also means that the risk to our 5.50% policy rate forecast is to the upside. We don’t have any cuts pencilled in. - Rabobank
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