UK growth stalled in the second half of 2012, hit by a deterioration in the outlook for the world economy and UK exports, weaker-than-expected investment, and the effects of continuing crisis in the euro area. The United Kingdom is likely to show modest growth for the rest of 2013, but signs are growing of a gradual pickup in activity in 2014. Loose monetary policy, a stronger global economy, and a reduced level of risk in global financial markets have all played a part. Yet the legacy of the financial crisis means that the recovery is likely to remain weak by past standards, with growth not forecast to return to above-trend rates until 2015.
Household spending accounts for over 60 percent of GDP and has been hard hit by the financial crisis and falling real incomes. A turnaround in this sector would significantly contribute to growth, and the latest news suggests the worst is past. Household spending has picked up in recent quarters (as illustrated in figure 1), and car sales are on an upward path, one of the few bright spots in an otherwise contracting European car market. UK unemployment has edged lower in the last two years, and private sector job creation is outpacing job losses in the public sector. While the outlook is far from rosy for UK consumers, as credit conditions begin to normalize and real wages start to recover, the hope is that household spending could prove a driver of growth over the next year or so.
Figure 1. UK household spending showing signs of improvement
A period of sharply higher taxes and high inflation is coming to an end. Seventy percent of the coalition government’s planned tax rises have already taken affect. Inflation has more than halved since its peak in 2011. With average earnings forecast to pick up, the scene looks set for a modest rise in consumer spending power.
Rising equity markets have boosted consumer wealth. Comparing consumer debt with financial assets shows that balance sheets are in better shape than at any time in the last 10 years. Falling levels of mortgage arrears and write-offs of consumer credit fit with a picture of a healthier consumer sector.
There are signs, too, that the long credit freeze may be starting to thaw. The Bank of England’s latest Credit Conditions Survey found that mortgage availability in the fourth quarter improved at the fastest rate since early 2008. Meanwhile the government has introduced a series of schemes to improve the flow of mortgage finance to households, and these appear to be having some effect.
Easier credit conditions are also supporting house prices and housing activity. Most measures of house prices have shown some increase in recent months, and the government’s independent forecaster, the Office of Budget Responsibility, is forecasting strong growth in housing transactions. Investors and property professionals certainly see better times ahead for the UK house-building industry. Chartered surveyors are now more optimistic about house prices than they have been in over two years (see figure 2), and shares in house-building companies have doubled over the last year.
Figure 2. House price expectations on the rise
The United Kingdom is likely to show modest growth for the rest of 2013, but signs are growing of a gradual pickup in activity in 2014. Loose monetary policy, a stronger global economy, and a reduced level of risk in global financial markets have all played a part.
Elsewhere in the economy, there are signs of activity. In recent months, numerous surveys show a broad-based rise in business confidence. The latest Deloitte CFO Survey, carried out in June, indicates a further rise in business sentiment, a sharp decline in perceptions of macrouncertainty, and a marked fall in concerns about a euro area breakup. Corporate risk appetite, one of the key determinants of corporate activity, has risen to its highest level in 5.5 years (see figure 3). And in a sign of reduced levels of defensiveness, CFOs are focusing less on cutting costs and more on expansionary policies, including bringing out new products or services, expanding into new markets, and undertaking M&A.
Figure 3. Corporate risk appetite at 5.5-year high
The combination of stronger consumer and corporate sector activity should provide a boost to the UK economy. But for a highly internationalized and open economy such as the United Kingdom, much will depend on events beyond these shores. The main risks to the United Kingdom lie in the global economy, particularly from renewed weakness in the euro area. At home, continued fiscal consolidation, which stretches five years ahead, represents a further headwind for recovery. But assuming the global environment does not deteriorate, the UK economy seems likely to show grad but assuming the global environment does not deteriorate, the UK economy seems likely to show gradually stronger activity through the second half of 2013 and into 2014.