Economics weekly - a different question

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Economics weekly - a different question

The UK and the US are enjoying rosy growth outlooks. And so their central banks are considering when to start raising rates. But in the Eurozone growth is barely visible and inflation is worryingly low. For the single-currency area’s central bank, it’s a different question – when does it step-in to provide more support?

Economic Analysis

11 August 2014

No change, yet

The Bank of England's Monetary Policy Committee (MPC) kept Bank Rate at 0.5% last week, but the improving economy means rate hikes are edging closer. Just how close depends on how the Bank interprets the latest puzzle in the UK economy. Unemployment is falling at its fastest rate in 25 years and GDP is growing at more than 3% a year. But despite that inflation is still close to target at 1.9% and wage growth has never been lower. In other words, slack in the economy seems to be eroding rapidly, but there's little sign of inflationary pressures. This week the MPC should set out how it views this policy dilemma. In the meantime markets expect the Bank to wait till 2015 before raising rates.

Strength to strength

The strong growth and low inflation environment was underlined by the latest services sector Purchasing Managers' Index (PMI). More than 30% of companies said activity was higher in July than in June, driving the headline index to an eight-month high of 59.1. The sharp rise in demand meant that backlogs of work grew longer - within touching distance of the record high reached in January 2014. So unsurprisingly, companies continued to hire at a rapid rate. As for inflation, average salaries are drifting higher but overall cost pressures remain relatively well contained.

Faster and faster

UK average house prices grew by 10.2%y/y in July according to Halifax, the fastest annual growth of 2014. This sits in contrast with last week’s release from Nationwide, showing a slight deceleration in growth. What both agree on however, is that the UK housing market is galloping along at pace, with London at the head of the charge. They also agree on the price of an average house - £186k and rising.

Carry on building

UK construction output rose by 5.3%y/y in June. That's over double the 2.2%y/y average growth recorded in the decade running up to 2008. Although spending on infrastructure and home repair and maintenance fell, the value of new private sector house building rose by 2%m/m, which compares favourably to May's meagre 0.1%m/m rise. The near-term outlook also looks rosy. The industry's PMI, at 62.4 in July, is soaring high above the neutral 50 mark. Home builders in particular are optimistic, despite rising costs, which are up by almost 8%y/y.

Higher, faster, stronger

It's one of the younger kids on the block, dating back only to 2008, but the US Institute of Supply Management's non-manufacturing survey turned in its best-ever result in July. A reading of 58.7 means America's service sector firms are motoring along at a decent lick. Especially encouraging were the strong results for employment - which signalled continuing job growth - and new orders - which suggest continuing expansion. With services accounting for 80% of the economy, the third quarter started well, building on the second quarter's decent performance.

No puzzle

The average American worker produced 2.5% more in Q2, slightly better than the productivity gains seen since 2000. Output rose 5.2% on an annualised basis, welcome confirmation that growth is firmly back on track. The strength of labour demand is apparent in the 2.7% increase in hours worked. That will make many Americans feel they are sharing in the recovery, yet wage growth remains sluggish: the compensation received for each hour worked rose by only 0.1%.


Italy’s economy contracted 0.2% from the previous quarter in Q2, meaning that the Eurozone’s third-largest economy re-entered recession. While the UK’s economic output is the same as it was in early 2008, Italy’s is approximately the same as it was way back in 2000. Germany is still the region’s growth driver but it’s not immune from the strains that surround it. Factory orders fell by 3.2%m/m in June, the biggest drop since 2011. Meanwhile, industrial production has also been cooling in recent months and contracted by 0.5% in June compared to the previous year.

Wait and see

Last month the European Central Bank announced a new program to boost bank lending. This month there was no new policy, but the challenges faced by the Eurozone economy haven't changed either. Inflation is currently just 0.4%, a long way below the target of close to but below 2%. As Italy shows the region is struggling for growth. And unemployment is 11.5%, lower than the 12% peak we saw a year ago, but still very high. For now the ECB is content to wait for signs of improvement, but it will only take a small amount of bad news to prompt it into further action. This week’s GDP numbers for France and Germany will be an important test. 


This material is published by The Royal Bank of Scotland plc (“RBS”), for information purposes only and should not be regarded as providing any specific advice. Recipients should make their own independent evaluation of this information and no action should be taken, solely relying on it. This material should not be reproduced or disclosed without our consent. It is not intended for distribution in any jurisdiction in which this would be prohibited. Whilst this information is believed to be reliable, it has not been independently verified by RBS and RBS makes no representation or warranty (express or implied) of any kind, as regards the accuracy or completeness of this information, nor does it accept any responsibility or liability for any loss or damage arising in any way from any use made of or reliance placed on, this information. Unless otherwise stated, any views, forecasts, or estimates are solely those of the RBS Group’s Group Economics Department, as of this date and are subject to change without notice.

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