November BOE Rate Hike Expectations Rise Following ONS Inflation Error

 

Unit Labour Cost Revised Higher

The chances of a UK interest rate rise are thought to have increased in light of the admission of an error by the Office for National Statistics (ONS). The ONS erroneously reported last week that the unit labour cost, which is the cost of employment per worker, grew at just 1.6% in the second quarter. However, the correct data published this week shows that the unit labour cost actually grew at 2.4% over the reference period.

In their last quarterly Inflation report published in August, the Bank of England forecast unit labour cost to grow at just 1% in the second quarter. The corrected data reading means that even with the volatility of the weaker pound removed from the calculation, inflation is starting to cost employers more.

The unit labour cost is an essential measure for the BOE as it is used to gauge how inflation is impacting the domestic economy and at what level the interest rate needs to be set. The BOE had expected the figure to run nearly 1.5% lower than it is, which was in line with the bank’s view that inflation would return to normal over the medium term. Along with the correction, first quarter unit labour costs were revised upward to 3.5%. The second quarter reading is an important input for the BOE as it shows that unit labour costs for the whole economy rose 0.9% on the quarter, up from 0.4% in the prior quarter, making it the fastest pace since 2q 2016. This new data adds significant pressure and greatly increases the chance of a November rate hike.

Not The First Error By The ONS

The ONS admitted that it used the wrong data set to calculate the unit labour cost as it used “income data from the second estimate of GDP instead of data from quarterly national accounts”. This is not the first error from the ONS which erroneously reported an incorrect trade data reading in December last year. Upon correcting the mistake, the ONS reported that the UK trade deficit was actually £6bln wider than expected.

The BOE noted at their last meeting that a rate increase would likely be appropriate if the UK economy continues to perform as expected over the coming months. As such, the market has shifted its perspective on GBP with the CFTC COT report showing that non-commercials players (banks and institutions) have now reversed their record short position in GBP and have switched long, with long positions reaching three-year highs last week. This shift comes despite continued uncertainty linked to Brexit negotiations and the state of the British government.

Market Reaction & Technical Perspective

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The market reaction saw GBP bought on the day. From a technical perspective, GBPUSD is in an interesting place. After a failed breach of the mid-2016 high around 1.3522, cable has since fallen back to retest the original bullish trend line from last year’s lows, along with the broken May high around 1.3046, which has provided support. While price holds above this level, the focus will be on another topside run with the next key resistance at 1.3276 which was the August high.

Data Flash

• UK August Industrial Production YoY 1.6% vs. 1.1% expected
• UK Manufacturing Production YoY 2.8% vs. 2.7% expected
• UK Construction Output YoY 3.5% vs. 2.7% expected

Industrial production grew for a fifth straight month over August while growth in the production of pharmaceuticals and metals pushed manufacturing up also. IOP is set to make a positive contribution to Q3 growth so long as growth comes in higher than -2.5% M/M in September. However, UK trade data is set to provide a drag on Q3 growth after the trade deficit widened in August to £5.626bln from £4.236bln in July.