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US Still On Hold, UK Still Weak

Two newsworthy economic developments today from the US and UK.

The most important, because it directly affects the USD, global borrowing rates and the relative attractiveness of US assets compared to those in the rest of the world was the policy announcement from the US Federal Reserve.

The Fed left policy unchanged as expected. However, the subtext of the accompanying message from the press statement was that the FOMC is trying to work out its causes and when a rebound is likely. Both the US dollar and Treasury yields have initially softened which suggests that scepticism about another hike this year has firmed a little. However, we are still looking for one more increase this year (in December) provided actual and expected inflation rates start to pick up again towards the 2% target.

There was also some news about the FOMC’s plans for unwinding its QE asset holdings. At the moment, it is continuing to re-invest these as they mature. But the statement hinted that it plans to start running down these re-investments "relatively soon" providing economic developments evolve as the Committee expects expected. It is possible that a formal decision may be made at the next FOMC policy meeting on September 20.

The first release UK Q2 GDP indicated that economic activity expanded by 0.3% q/q which chimed with the market consensus. Following a surprisingly weak 0.2% print in Q1, the key message is that UK growth has slowed sharply during 2017 H1 compared to the 0.6% q/q average seen in 2016Q4. At this stage, it seems reasonable to conclude that the uncertainty engendered by the decision to leave the EU has finally started to press on the economy.

Next week (August 3) sees the MPC update its growth and inflation forecasts alongside the policy decision and the release of the August Inflation Report. Today's release, especially when taken alongside last week's surprising easing in headline inflation from 2.9% in May to 2.6% in June, is likely to weaken the case of those on the Bank of England's Monetary Policy Committee who are minded to vote for a hike in the Bank Rate to 0.50%.

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