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New UK Prime Minister; ECB rate decision; US GDP


The new UK Prime Minister is revealed, the European Central Bank (ECB) announces its interest-rate decision and US GDP growth is expected to slow.


New projections from the US Treasury suggest it is likely to run out of funding in the first two weeks of September. Because of this, Congress will probably try to pass legislation this week to deal with the debt limit. This will need to be approved before Congress goes on recess from 27 July until 9 September. As usual, the devil is in the detail and the market's reaction will depend on the length and size of the debt-ceiling increase.

The winner of the UK’s Conservative Party leadership contest – and the new Prime Minister – will be announced. Voting took place from 6-21 July among the Tory Party’s 160,000 members. Boris Johnson is the firm favourite and should prevail over Foreign Secretary Jeremy Hunt. On 24 July, Theresa May speaks at her final Prime Minister’s Questions before submitting her resignation to the Queen. Both candidates are open to a no-deal Brexit if there is no agreement with the European Union (EU) by 31 October. Johnson has even contemplated proroguing Parliament, although this is no longer viable after the House of Commons voted last week to block any suspension in the run up to Brexit day. Separately, the Confederation of British Industry (CBI) will release its Q3 business-optimism index, which will throw light on the impact of Brexit-related uncertainty. The index bounced back to -15.1 in the second quarter, up from -26.4 in Q1, which was the lowest reading since the post-EU referendum result in 2016. Relief that the 29 March Brexit deadline had been extended was probably behind the surge. Despite the boost, the index is still well below its long-term average of -3.5. Across the Channel, the ECB releases its bank-lending survey. The results are part of the package of information the central bank will consider during its monetary-policy meeting on Thursday. The last report showed that bank-lending standards were broadly stable, but loan demand slowed further. While the release indicated that negative interest rates are weighing on banks' profits, they were also effective in encouraging banks to lend more. The eurozone will also report consumer confidence, which has come in at between -7.5 and -6.5 since the beginning of the year and is likely to move sideways in July. This may be below the cycle’s high of -3.4 in December 2017, but it is above the long-term average of -10.5, which is testament to the relative strength of the European labour market. Elsewhere, the Hungarian central bank is expected to keep interest rates unchanged at 0.9%.

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Markit will report flash readings for the Purchasing Managers’ Index (PMI) in the US, eurozone and Japan. This will give a sense of whether the index’s tentative stabilisation in June has been sustained. Last month, the global composite PMI was unchanged at 51.2 – an almost three-year low. This reflected some cross currents, notably modest improvements in the US and eurozone that were offset by deterioration in China. Meanwhile, the eurozone releases M3-lending data. Growth in bank lending to the private sector has been roughly stable at around 3% year-on-year since the middle of 2018. But the headline figure masks marked differences within the bloc: lending growth has been solid in Germany and France, while remaining negative in Italy and Spain.

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South Korean GDP is likely to grow by 0.4% quarter-on-quarter in Q2, largely reversing the 0.4% decline in the first three months of the year. Consensus estimates expect year-on-year growth to edge up from 1.7% in Q1 to 1.9% in the second quarter. Elsewhere, Germany will release its IFO business survey, which has deteriorated sharply since the middle of last year. Its reading of 97.4 in June was the lowest since November 2014 and well below the record high of 105 in November 2017. The index should be little changed at 97.6 in July. Meanwhile, the Turkish central bank meets. Onlookers expect the bank to cut interest rates from 24% to 21.75%. A sharp fall in consumer-price inflation, the dovish turn of central bankers throughout the world and increased domestic political pressures – President Erdogan fired central-bank Governor Murat Centinkaya earlier this month – all pave the way for a large interest-rate cut. The market’s reaction to Centinkaya’s dismissal was fairly muted and the lira only depreciated by about 2%. But sentiment changes fast and the central bank’s credibility could be compromised by excessive easing. In addition, international relations provide the potential for further tension: Erdogan has begun receiving parts for the Russian S-400 air-defence missile system, which could alienate NATO allies and result in US sanctions. The ECB will also hold its monetary-policy meeting. The central bank adopted a dovish tone at its last meeting, as did central-bank Governor Mario Draghi in his speech at the institution's annual forum in Sintra, Portugal in June. The ECB has made it clear that it stands ready to provide additional easing should the economic situation not improve. This could be in the form of additional interest-rate cuts, the resumption of quantitative easing (QE), or both. At a minimum, the ECB will adjust its forward guidance on interest rates, probably stating that it expects interest rates "to remain at their present level at least through the first half of 2020". A more decisive move – interest-rate cuts or instructing committees to prepare to resume QE – cannot be ruled out, although this is more likely to happen at the September meeting when new economic forecasts are produced. At the time of writing, the Overnight Index Swap market has priced in a 48% probability that the bank will cut the deposit rate by 10bps to -0.5%. Across the Atlantic, the US will report durable-goods orders. Core-capital-goods orders (which exclude defence and aircraft) rose by 0.6% month-on-month in May, following a 1.1% fall in April. Orders are likely to contract by about 1.5% on an annualised basis in Q2 and manufacturing surveys suggest the downward trend will continue over the short term. Back in the UK, Parliament’s summer recess begins. The opposition Labour Party could bring a motion of no confidence before, although this seems unlikely. Parliament will return on 3 September before departing at the end of the month for the party conferences.

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The ECB releases its survey of professional forecasters. Long-term inflation expectations have deteriorated sharply in recent quarters, which helped prompt the ECB’s dovish turn. In April, the five-year-ahead inflation forecast fell to 1.79%, down from 1.82% in January and 1.88% last October. This was the lowest reading since January 2015, just before the start of the asset-purchase programme in March. In Russia, the central bank is likely to cut interest rates by 25bps to 7.25%. At its last meeting, the central bank cut interest rates by 25bps and provided dovish guidance. It envisaged the policy rate would return to neutral territory – 6% to 7% – by the middle of next year. The US will report second-quarter GDP growth. At the time of writing, consensus estimates expect output growth to slow to 1.8% on a quarter-on-quarter annualised basis in Q2, down from 3.1% in the first three months of the year. The recent build-up of inventory has started to unravel, which partly explains the slowdown. Other details will be mixed, reflecting the dichotomy that has emerged between consumers and business. Consumption growth – which has been underpinned by solid fundamentals – should bounce back, following a temporary slowdown in Q1 which was likely due to the government shutdown (see chart of the week). By contrast, surveys suggest that business investment should remain subdued. We expect GDP growth to slow to around 2% in 2019, down from almost 3% last year.


US consumers on a solid footing in the second quarter

Source: Reuters Datastream, Census Bureau, US Bureau of Economic Analysis, University of Michigan, as of July 2019.

US consumer and business activity continued to diverge in the second quarter. The strong labour market has supported retail sales and consumer confidence recently, while business activity is lacklustre. Core-control retail sales – a direct input for the consumption of goods in GDP – rose by 7.3% on a quarterly annualised basis in Q2. This means that personal-consumption spending is likely to rise by 4% at a quarterly annualised rate in the second quarter. By contrast, business surveys – particularly for the manufacturing sector – have remained weak and point to subdued investment. This week, the June factory-orders report will shed some light on capital-expenditure trends.


The International Monetary Fund’s (IMF's) annual external sector report, China’s protectionist tendencies and arguments favouring fiscal expansion in a low-rate environment are among the interesting reads you may have missed.

IMF 2019 external sector report: the dynamics of external adjustment

The IMF estimates that 35%–45% of current-account surpluses and deficits were deemed excessive last year. High surpluses are largely in the euro area and smaller advanced Asian economies, while substantial deficits are concentrated in the UK, the US and some emerging markets.

China is the biggest protectionist threat

President Donald Trump isn’t the only reason the global trading system is under threat. A Bloomberg opinion piece points out that even before the trade war, China was trying to bring supply chains within national borders in order to develop its own high-tech industries.

Why critics of a more relaxed attitude on public debt are wrong

Olivier Blanchard of the Pietersen Institute of International Economics and Ángel Ubide of Citadel reiterate their arguments in favour of a more relaxed attitude towards public debt and deficits. They conclude that the trade-off between debt consolidation and activity needs to be reassessed in a low interest-rate environment.

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