News & Analysis


UK macro data in Q1 brought a modest unexpected boost to the pound, as the figures showed a relatively more resilient economy than expected amid initial coronavirus shock. Despite the initial positive surprise in the headlines, investors are left with a grim picture.

The UK economy shrank by 5.8% in March compared to the previous month, which registers as the worst monthly collapse since records began in 1997. This fall rounds to a quarterly contraction of 2% relative to Q4 2019, or a 1.6%  drop compared to last years Q1. Although better than expected, the contraction in economic activity in March was the result of only one week of full lockdown in the country. Due to the delayed implementation of lockdown measures in the UK relative to the Eurozone, the better performance in Q1 relative to the eurozone (-3.8% QoQ) makes sense. However, the sharpest impact of the crisis will undoubtedly take place in Q2, when some form of restrictions will be in place for the whole period. In a basic extrapolation of the Q1 fallout, 12 weeks of lockdown over the next quarter will nearly create the 25% contraction projected by the Bank of England for the period. This would mean an almost 30% drop in the first half of 2020, the fastest and deepest recession in 300 years.

The damage in March was widespread across sectors, but the services sector, which accounts for some 80% of GDP, took the biggest hit, with a 6.2% decline. Travel and tourism plunged 50%, while accommodation fell by 46% and air transport by 44%. Manufacturing and construction contracted by 4.6% and 5.9% MoM respectively, but the sharpest fall across all sectors in the entire quarter was in construction, with a 2.6% plunge compared to the 1.9% contraction in services. Trade was also hit, with a 12% fall in exports and a 5% fall in imports in the first three months of the year.

Despite the first quarter data, the V-shaped recovery projected by the Bank of England remains plausible.

The central bank foresees an annual decline in GDP of 14% by the end of the year, followed by a 15% rebound next year. However, high uncertainty remains regarding the duration and severity of lockdown measures. Recent government plans are already encouraging the return to the workplace for those sectors that cannot operate from home, namely construction and manufacturing. If a second wave of infections is triggered by the early easing of lockdown measures, forcing a second lockdown, the BoE’s forecasts may turn out to be optimistic, despite further monetary and fiscal firepower being put in place.


Over the last few days, US money markets have priced in the likelihood of effective negative interest rates for the first time in US history. This not a signal the Federal Reserve can easily neglect, after markets correctly anticipated – or even precipitated – the Fed’s cuts in 2019. On the other hand, Jerome Powell has proven effective on the “ahead of the curve” policy management implemented in March, swiftly soothing financial markets amid the outbreak of the pandemic and implementation of lockdown measures. A similar experiment over Japan and the Eurozone has been a good test of the undesired effects of negative interest rates in the past. Not only it has failed to prop-up prices in a sustained manner amid structurally deflationary environments, but it has also proven very difficult to undo. Increasing damage to banking profitability and hence, risks to financial stability, are additional arguments against negative rates.

Jerome Powell will speak this afternoon, hopefully shedding some lights into the willingness of the Fed to drive down the avenue of negative interest rates. As per recent commentary of some of his colleagues, the Fed seems still quite reluctant to open that box, while it hasn´t fully ruled it out yet.

In our view, the Fed will rather exhaust its weaponry before examining the possibility of negative rates, although markets are once again betting on further rate cuts.


Olivia Alvarez Mendez, FX Market Analyst
Ranko Berich, Head of Market Analysis



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