Sterling in 'delicate spot' as OBR 'sounds alarm' on public finances

Sterling finds itself in a delicate spot following last week’s government U-turn.

An inability of the Labour leadership to force through even modest cuts to welfare spending is alarming, as this almost guarantees that additional tax hikes will need to be forthcoming in the autumn budget.

The OBR yesterday sounded the alarm over the UK’s “vulnerable” public finances, warning that an erosion in the government’s fiscal wiggle room could force tax hikes or spending cuts in excess of £20 billion later in the year - a number that will to rise further should UK growth continue to slow and gilt yields extend they march upwards (the 10-year remains near 1-month highs above 4.6%).

The introduction of a wealth tax on the super rich has been mooted, but the real kicker would be a freeze to income tax thresholds, which would act to drag more of the population into higher tax brackets due to increases in wage growth.

At any rate, none of the options available to the government are particularly palatable for markets, and the pound is currently underperforming most of its major peers as a result. Focus in the coming days will be on Friday’s monthly GDP print for May. A mild bounce in the region of +0.1% is expected following the sharp contraction in April - any surprise to the downside here would increase the chances of an overall GDP contraction in the second quarter.

Tariff news should have limited impact on the UK economic outlook at least, as Britain remains one of only two countries to strike a US trade deal post-Liberation Day (Vietnam being the other).