European Markets with Peter Schaffrik: What is driving the U.K. economy?

Peter Schaffrik is joined by Cathal Kennedy to unpick what is driving the U.K economy including recent inflation data, the Bank of England's relative hawkishness and recent trade agreements.

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By Peter Schaffrik and Cathal Kennedy, RBC Capital Markets
Published | 3 min read

Key points

  • UK inflation surprised to the upside in April, driven by service inflation and utility price adjustments.
  • The Bank of England remains hawkish, focusing on supply-side constraints and wage inflation as key factors.
  • Recent UK trade agreements with the EU and US provide modest economic relief but are not transformational.

The UK economy is grappling with persistent inflationary pressures, largely driven by supply-side constraints. April’s inflation figures revealed a significant upward surprise, with service inflation reaching 5.4%, well above the Bank of England’s expectations. This was partly due to timing effects, such as the Easter holiday, which boosted transport-related costs. However, the underlying issue remains the slow pace of disinflation in services, which has been a growing concern for the Bank of England. Wage inflation, hovering between 5.5% and 6%, is another critical factor that needs to be addressed before the Bank can consider easing its restrictive monetary policies. Recent statements from Deputy Governor of the Bank of England, Clare Lombardelli, underscore the Bank’s focus on supply-side issues rather than demand-side conditions, signaling a continued hawkish approach in the near term.

On the international front, the UK has made strides in securing new trade agreements with the EU and the US. While these agreements are not transformative, they offer incremental benefits. For instance, the US deal mitigates some of the tariff impacts on key sectors like automotive and pharmaceuticals while avoiding a push to lower UK food standards. The EU agreement, meanwhile, reduces non-tariff barriers in sectors such as defense, energy, and agrifood. These developments, coupled with ongoing inflationary pressures and supply-side constraints, are likely to shape the UK’s economic and monetary policy landscape for the foreseeable future. The broader implications extend beyond the UK, as similar supply-side challenges and inflation concerns are being echoed in other major economies, including those governed by the ECB and the Federal Reserve.

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Our experts

Peter Schaffrik
Peter Schaffrik
Chief European Macro Strategist, RBC Capital Markets
Cathal Kennedy
Cathal Kennedy
Senior U.K. Economist, RBC Capital Markets

 

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