Bank of England Chief Touts Upbeat GDP Growth as Services Rebound in Q2

Kristian Rouz — Bank of England (BOE) Governor Mark Carney says the latest macroeconomic data points to an acceleration in the UK's GDP growth rate, driven by a robust resurgence in the services sector.

Carney suggested the BOE would stay on course raising its interest rates, which determine the cost of credit across the British economy. This is highly encouraging news for highly indebted households and businesses, but the BOE governor's remarks also hint at faster job creation, as well as further gains in retail and manufacturing revenues.

"Overall, recent domestic data suggest the economy is evolving largely in line with the May Inflation Report projections, which see demand growing at rates slightly above those of supply and domestic cost pressures building," Carney said at the Northern Powerhouse Summit in Newcastle.

The UK's inflation rate came in at 2.4 percent in May, which is above the central bank's 2 percent target, but well below its peak of 3.1 percent last autumn. This points to a moderation of risks to business activity posed by the ongoing Brexit process, whilst also giving the BOE enough wiggle room to raise its base borrowing costs to 0.75 percent from the current 0.5 percent.

In a separate report, IHS Markit said the UK's Purchasing Managers' Index (PMI) rose to 55.1 last month from 54.0 in May — a solid gain, and far above the 50 percent threshold separating expansion from contraction.

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Economists say this reflects a strengthening of consumer demand across Great Britain and Ulster.

"Stronger growth of service sector activity adds to signs that the economy rebounded in the second quarter and opens the door for an August rate hike, especially when viewed alongside the news that inflationary pressures spiked higher," Chris Williamson of IHS Markit said.

The UK's unemployment rate sank to 4.2 percent in April, its lowest in 42 years. This means an ever-increasing number of Britons can afford to get off welfare and improve their living conditions by ramping up their spending — which typically translates into higher GDP numbers.

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However, economists warn that labor productivity remains persistently low and has been tanking in the UK, suggesting the lion's share of existing jobs are in the low-profitability sectors such as government-sponsored areas of the economy.

Even the officials are sounding the alarm, urging an increase in output across the economy, as well as the implementation of better technology and digital solutions in both private and state sector enterprises.

According to the Office for National Statistics (ONS), production per hour slumped 0.4 percent quarter-on-quarter in March — the most recent reporting period — after a modest 0.6-percent increase in 4Q17. The ONS said this might reflect severe winter conditions in the first quarter, but it doesn't mean the UK doesn't have a productivity problem.

"The relapse in productivity… after the rebound in the second half of 2017 is particularly disappointing as there needs to be sustained improvement to ease concerns over the UK's overall poor productivity record since the deep 2008-09 recession," Howard Archer of EY ITEM Club said.

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But BOE's governor remains optimistic, saying these are temporary setbacks, and the UK's economy is set to fire on all cylinders after the tumultuous Brexit process is complete.

"Domestically, the incoming data have given me greater confidence that the softness of UK activity in the first quarter was largely due to the weather, not the economic climate," Carney stressed.

Now British economists are awaiting the upcoming flurry of macro reports from the ONS and other governmental agencies, to see if Carney's expectations of a stronger GDP expansion will prove true. If so, they say, the BOE will hike rates over the coming months — not necessarily in August — which could help the pound sterling gain some ground against its international peers.

The PMI readings also suggest Brexit has shifted towards a purely political dimension.

"It remains encouraging, yet also surprising, that current business activity continues to show such resilience amid relatively moribund confidence regarding the year ahead outlook," HIS Markit's Williamson said.

Investors and business CEOs are also saying the economic impact of the UK's divorce from the EU will be either negligibly negative or mildly positive — whilst the UK's newly found freedom to negotiate and enter new trade deals could unlock new supply chains for British companies, boost exports, and spur the broader economy.