Fundamental Forecast for British Pound: Bearish

- U.K. GDP nearly doubled expectations of 0.6% growing 1.1% in the second quarter
- BoE Voted 7-1 to keep rates unchanged at 0.50% according to minutes
- June’s budget deficit was wider than expected at 20.9B
- Retail sales improved by 0.7% in June surpassing estimates of 0.5%

The British Pound ended the week higher as improving fundamentals offset dimming interest rate expectations but uncertainty over growth and monetary policy could expose the sterling to broader trends going forward. The second quarter GDP report showed growth at nearly double the pace that was expected keeping the GBP/USD from remaining unchanged on the week. Early weakness on the back of a larger than expected budget deficit for June and dovish remarks from the BoE was retraced following a robust retail sales report before the growth figures broke the tie. A lack of event risk on the upcoming economic calendar could see direction determined by corporate earnings as markets try to gauge the sustainability of the global recovery.

The increase in consumer consumption was more impressive considering that gas sales declined 3.9% during the period but flat demand for apparel shows that Britons continue to scrutinize purchases. The improved growth picture has increased concerns over inflation which has been above the government’s 3.0% threshold for five straight months, but the consensus amongst policy makers is that existing slack in the economy will ultimately bear down on prices making a rate hike more likely later than sooner. The central bank’s uncertainty over the course of monetary policy can been seen in recent comments from MPC member Adam Posen who stated that there is a "more than 50% likelihood in my estimation the right next move will be to loosen rather than to tighten" but "for me, the possibility still exists of it being right to raise interest rates before too long." The voting member would go on to say that "if we do it [quantitative easing] again, we're probably not going to do it in dribs and drabs. It is an instrument that is best done for a sustained period." Therefore, we could start to see markets begin to price in the potential for a period of stimulus which would weigh on the pound.

The consumer credit report and mortgage approvals highlight the upcoming week’s event risk as signs that banks continue to hoard cash and tighten lending standards will dim the outlook for future growth. The Gfk consumer confidence readings could also be a key release as declining optimism will weigh on future demand. Meanwhile, the European stress test results proved to be a non-event as only 7 out of 91 banks failed which could open the door for a relief rally. However, the stringency of the tests may not be enough to ease concerns leaving the potential for sterling weakness.

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