Rate rise likely in November

Yesterday’s first estimate for economic growth means we could be seeing an interest rate rise before the end of the year.

Rate rise likely in November

The first estimate for Q3 GDP showing growth of 0.4% indicates the economy is performing slightly better than economists had expected. Although by any measure this is not strong growth (an annual rate of around 1.6%) it does indicate the economy is relatively robust at present with growth in the services sector and in manufacturing.

Azad Zangana, Schroders’ senior European economist, believes this means rates will rise in November. “With regards to monetary policy, despite the obvious ongoing weakness in growth, it is hard to see why the Bank of England would suddenly change its policy bias now and not raise interest rates in November.

“The Bank argues that inflationary pressures could rise sharply if not checked by higher interest rates, and that the current low unemployment rate could lead to much faster wage growth. That has yet to be seen, and the latest weak growth data suggests that productivity growth will also remain poor, making it unlikely that pay growth will rise much above inflation anytime soon.”

Richard Stone, chief executive at The Share Centre, agrees: “The initial estimate of growth for Q3 shows the economy is not powering away, but it is performing robustly and just outperforming the expectations of economists.

“When taken together with the latest inflation figures (3.0%) and continued strong employment data, we believe there is a greater likelihood of an increase in interest rates in November – for the first time in 10 years. Albeit any increase will likely be modest at 0.25%.”

The growth shown by the services and manufacturing sectors are encouraging. Much has been made of the impact of the fall in Sterling on the rate of inflation as imports have become more expensive. However, a counter to that is the increased attractiveness of British exports and this is now helping drive growth back into the manufacturing sector.

The Government will be disappointed that the construction sector showed a fall in output, taking that sector into a technical recession, and further support and encouragement for infrastructure projects and housebuilding may feature in the upcoming Budget as the Chancellor seeks to boost growth here.

With the Government is moving away from the public sector pay cap and employment is continuing to be strong; with unemployment at low levels, the potential is for wages to move upwards and consumer spending to start increasing, supporting prices. And these are the main reasons Stone believes a rate rise is on the cards.

“The risk is that the economy, corporately as well as in respect of households, is too weak to stomach a rate rise, he said. “The latest data suggests that is not the case and therefore opens the door a little further for the Bank of England to take that step.

“It should though be remembered that any increase in rates will likely just be a reversal of the cut in August 2016. The real question will be how rapidly rates rise through next year going back above the level they were cut to in March 2009 following the financial crisis.

“It is possible that if inflation proves stubborn, unemployment continues to remain low, wages start to increase more rapidly and growth strengthens, then rates may rise a little quicker than markets currently expect.”

For personal investors rising rates, and the impact that has on Sterling, will likely have a dampening impact on the markets in the short term. However Stone believes that longer term, stronger economic growth both here in the UK and overseas should drive improved corporate performance supporting higher market valuations.

“The key for investors will be to be discerning between those companies who will benefit from rising interest rates and stronger growth and those, particularly those with high levels of debt, for who increased rates may be more problematic.”

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