Author: Elliot Guinn Managing Director of Samuel and Co Trading
The Labour Government and Keir Starmer have inherited a UK economy that is currently navigating a mixed landscape marked by a gradual recovery and ongoing challenges. Key factors influencing the current state of the economy include inflation, consumer confidence, and business investment. In this analysis, we take a look at each of these key challenges the labour Government will face and what this could potentially mean for the GBP in the near future.
Firstly, one of the most talked about topics in the financial markets for the past 2 years is inflation. In the UK, inflation has moderated significantly, returning to the Bank of England’s 2% target, although some domestic inflationary pressures, particularly in the services sector, persist. This reduction in inflation has led to expectations of a gradual easing of monetary policy, with current forecasts from the ONS showing interest rates potentially falling towards 3% by the end of 2025. This would provide a much-needed relief for borrowers who have seen their mortgage rates soar over the past 24 months.
Another key indicator to determine the health of the economy is consumer confidence. Consumer confidence has been gradually improving, aided by cuts to National Insurance Contributions, which are boosting real household disposable income. Now utility bills have eased some financial pressures on households, contributing to a modest recovery in household consumption. However, prices are still much higher than they were prior to 2022 and wages have certainly not kept pace with inflation, so households are still feeling the pressure. It will be interesting to see how the labour government will aim to support these frail households.
Furthermore, Business investment shows signs of revival, driven by improved political stability following the summer elections and expectations of a favourable fiscal agenda in the autumn. However, some businesses remain cautious, awaiting further reductions in interest rates before committing to significant capital expenditures.
GDP growth has been sluggish, with the economy experiencing near-zero growth since early 2022. Although the UK technically entered a shallow recession in late 2023, modest growth of around 0.9% is projected for 2024. This is relatively low by historical standards, underscoring the need for policies to stimulate more robust economic expansion albeit recent revisions to GDP have been higher not the other way around. The Labour government will have its work cut out to get the UK economy growing at a significant rate once again mainly because the current fiscal environment remains constrained, with limited room for fiscal expansion.
The British pound (GBP) has shown resilience against the US dollar (USD), supported by the UK’s economic stability and a significant Labour election victory. However, the strength of GBP against USD will depend on the broader economic outlook and ongoing fiscal and monetary policies. As it hovers around the key 1.3 mark, it looks likely that the markets will want to see continued progress in the UK’s economy before it can make a sustained move higher and above that level.
Overall, while there are reasons for cautious optimism in the UK economy, significant risks and uncertainties remain, particularly related to inflationary pressures and global economic conditions. The interplay of these factors will be crucial in determining the future trajectory of the GBP/USD exchange rate.
