The last five years have seen the worst growth performance by the UK economy since the 1920s. The UK economy saw a deep recession in 2008–2009 and entered a milder second recession in the last quarter of 2011. The current cycle’s GDP levels are comparable to those of the 1920s. However, this comparison overstates the degree of stress facing businesses and households today.
Low interest rates and forbearance on the part of lenders have helped soften the damage to the economy in recent years. UK interest rates and government bond yields today are at the lowest level since the foundation of the Bank of England in 1694. Debtors have not faced an acute interest-rate squeeze, which was the hallmark of most postwar boom bust cycles. The United Kingdom has also escaped Great Depression levels of unemployment. Indeed, employment has risen for the last three years as job growth in the private sector has outstripped public-sector job losses. Ben Broadbent, a member of the Bank of England’s Monetary Policy Committee, recently observed that, had the normal, pre-recession relationships held, the number of jobs in the United Kingdom would have fallen by 8 percent over the last five years. Instead employment has stayed roughly unchanged. The result is that the UK unemployment rate today is well below the peaks seen in the previous, milder UK recessions of the ’80s and ’90s.
Relatively low unemployment has helped support consumers during a period of acute difficulties. Other factors are also becoming more positive for consumers. Most of the big tax rises are past. Sharply lower inflation—CPI inflation has almost halved in the last year to 2.5 percent—should lend additional support to consumer spending power.
The outlook for a battered consumer sector is starting to look up. Real disposable incomes have risen 1.7 percent over the last year, having declined through 2011. And consumer spending is rising once again. Given that consumer spending accounts for over 60 percent of the UK economy, an upturn in consumer activity should lend significant support to growth next year.
The universal assumption among economists—at least for now—is that the worst has passed for the UK economy. All 37 independent forecasting groups that provide GDP forecasts to the Treasury expect UK growth to bounce back in 2013. Most believe that the current slowdown in the United Kingdom is drawing to an end and that steady growth will resume in the first quarter of next year.
But a better test is what kind of growth is expected next year. The news here is not encouraging. Consensus forecasts for UK GDP growth for 2013 have dropped from 1.8 percent to 1.3 percent in the last four months—a pretty weak rate of growth for an economy used to growing at 2.5 percent a year. Our guess is that most economists would say that the risks to their UK growth forecasts lie on the downside.
Many of the problems facing the United Kingdom exist elsewhere in the world. After a lull over the summer, worries about the euro area are growing. Hopes that a bond-buying program by the European Central Bank would crack the euro’s problems have dissipated. Meanwhile, the United States may be on course for sharp tax hikes and cuts in public spending in three months’ time. Unless politicians strike a postelection deal, the so-called fiscal cliff could derail America’s recovery. Such external uncertainties constitute a significant drag on a UK recovery, which is widely expected to be powered by demand for British exports from abroad.
The universal assumption among economists—at least for now—is that the worst has passed for the UK economy.
While the UK consumer outlook has brightened marginally and corporates are continuing to hire, businesses remain cautious. The third-quarter Deloitte Survey of UK Chief Financial Officers suggests that big corporates increasingly subscribe to the notion that we are in a low-growth world. Perceptions of macro-uncertainty and of the risk of continued recession are widespread. Corporates are increasingly focusing on defensive balance-sheet strategies, including cash generation, cost control, and leverage reduction.
In 2008, a combination of a shock to demand and a credit crunch caused a deep recession. The financial system is in far better shape today, and the larger corporates who responded to the CFO survey are not especially constrained by cash or capital shortages. The big problems seem to be the weakness of Europe’s economies and a climate of macroeconomic uncertainty. After successive waves of bad macro news followed by policy stimulus and equity rallies, UK corporate CFOs may need some convincing to turn significantly more positive on expansion.
The United Kingdom’s current downturn seems to be drawing to an end. Growth should pick up next year. But, as the continued difficulties in the euro area highlight, plenty of things could go wrong. For now, the United Kingdom seems to be heading for a shaky and tepid recovery.