How will the UK economy perform in 2012?
By Ben Salisbury
2012 promises to be a pivotal year for the global economy. The euro enters the most vital year in its history and conceivably its last.
How the euro debt crisis plays out could have a major impact on the UK economy and contribute to a deepening of a global recession or if a resolution materialises that satisfies the markets, this could help life in the UK and send the eurozone and wider global economy into growth.
Global economic developments
A further international economic issue that will have a major impact on our own domestic agenda is the success or otherwise of the US economy. Recent signs have been good, not least the creation of 200,000 jobs in December, announced on Friday. The emergence of the US economy will also play a vital role in securing President Obama a second term or it could influence a change to a Republican President.
The continuing economic development of China and other emerging economies such as Brazil and India could also be damaged by a global recession. The stakes have rarely been higher and a year has seldom begun with such a plethora of vital issues that could dramatically affect the global and domestic economy.
The difficulty of economic forecasting
With this in mind, I would like to take a look at some of the predictions from respected forecasters IHS Global Insight about the prospects for the UK economy in 2012.
Economic forecasting is not an easy thing to do but it is interesting to see the predictions from experts. Perhaps sometimes when organisations and businesses are so involved in the day-to-day machinations of the economy it can sometimes be difficult to see the wood from the trees.
A report by David Smith in The Sunday Times today, lists the relative success of 39 respected forecasters on their predictions for unemployment, inflation and the Bank of England base rate for 2011.
IHS Global came 12th in the list, a respectable performance. The list makes interesting reading in many ways. No forecaster got anywhere near to being correct on the level of inflation, 4.7 per cent at the end of the year.
Respected organisations that are supposed to be leading the global recovery such as the International Monetary Fund (IMF) languished close to the bottom of the list. The Office for Budget Responsibility (OBR) came 30th which is quite worrying. The CBI, British Chamber of Commerce and Ernst & Young’s Item Club all came in about midway on the economic forecasters’ league table.
A report in the Financial Times on Christmas Eve provided further evidence of the lack of success of so-called experts. Both the FT Money columnists and industry experts did not come close to a successful prediction of the performance of the UK stock market in 2011.
The closes forecast came from the semi-tame fox in the garden of columnist Kevin Goldstein-Jackson. The fox was offered pieces of chicken corresponding to index movements. Using this, the fox came up with 4,779, closest to the level of 5,350 that the index was on at Christmas. The fox also proved to be the most accurate forecaster of UK house prices in both 2008 and 2009.
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So here are IHS Global’s predictions for ten vital elements of the UK economy for 2012.
1) Economic growth: Economy to grow Just 0.3% in 2012: 2012 is clearly going to be a very difficult year for the UK economy, with modest contraction likely to occur in the early months in the face of rising unemployment and a still significant squeeze on consumers’ purchasing power coming from high inflation, muted wage growth and tight fiscal policy.
We expect the economy to start growing gradually in the second half of 2012, helped by lower inflation easing the squeeze on consumer purchasing power and an improvement in global growth. The Olympics should also give the economy a limited boost in the third quarter.
2) Euro debt crisis risks: Risks seen slanted to downside and there is a very real risk that the economy could contract overall in 2012: The UK is far from immune to problems in the Eurozone, so if the region’s sovereign debt crisis situation fails to improve or even worsens, the UK could well see weaker economic activity than we currently project in 2012 with outright contraction a very real possibility.
3) Prospects for growth if euro debt crisis resolved: Growth could come in higher than forecast if eurozone policymakers quickly in 2012 manage to come up with a strong enough package of measures to ease sovereign debt tensions, including greater action by the European Central Bank. This would lift the markets and confidence, increase stability and reduce uncertainty, and crucially should lead to an easing in credit conditions.
4) Unemployment: Unemployment rate likely to reach 9.0 per cent in 2012: Latest data show that unemployment on the International Labour Organization measure stood at 2.638 million in the three months to October, giving an unemployment rate of 8.3%.
Faltering economic activity, lower business confidence fuelled by a worrying and uncertain outlook and mounting public sector job cuts look set to take a serious toll on jobs through to mid 2012 at least. Consequently, we expect the number of jobless to reach a peak around 2.85 million in the third quarter of 2012, which would see the unemployment rate climb to around 9.0 per cent.
5) Inflation: Inflation likely to be down to 2.0 per cent by end of 2012: Having fallen back to 4.8 per cent in November from a peak of 5.2 per cent in September, consumer price inflation should head down markedly further over the coming months due to the waning impact from (1) past VAT hikes, (2) substantially rising energy, commodity and food prices in late-2010 and early 2011, and (3) sterling's past marked depreciation.
Inflation should dip particularly sharply at the start of 2012 as the impact of the January 2011 VAT hike from 17.5 per cent to 20 per cent drops out. It is highly possible that consumer price inflation will be down to the Bank England’s target level of 2.0 per cent by the end of 2012, and it could very well dip below 2.0 per cent in 2013.
6) Interest rates: Interest rates to Stay at 0.50 per cent through 2012: Given the current softness of the economy, the weak and uncertain growth outlook, and the probability that consumer price inflation will fall back markedly as 2012 progresses, there seems little – if any- likelihood that the Bank of England will raise interest rates from the current record low level of 0.50% during the year. In fact, it is far from inconceivable that the Bank of England could hold off from raising interest rates until 2014.
7) Quantitative Easing: More quantitative easing to occur: While interest rates are unlikely to go lower than 0.5 per cent, it is odds-on that the Bank of England will undertake more Quantitative Easing (QE) early in 2012 to try and boost the struggling economy. We strongly expect the Bank of England to announce a further £50 billion of QE in February, and believe that a further £50 billion portion is highly likely to follow in the second quarter (most probably May). This would take the stock up to £375 billion.
8) Public Finances: With GDP growth in 2012 (and 2013) likely to be even weaker than forecast by the Office for Budget Responsibility, Chancellor George Osborne will find it tough to achieve the upwardly revised fiscal targets contained in November’s Autumn Statement. This threatens to leave the Chancellor with the awkward choice of accepting further slippage in his fiscal targets or imposing more fiscal tightening on a struggling economy.
In his November Autumn Statement, the Chancellor forecast the Public Sector Net Borrowing Requirement at £127 billion in fiscal year 2011/12 and £120 billion in 2012/13. We currently forecast the PSNBR at £129 billion in 2011/12 and £125 billion in 2012/13 but fear it could exceed £130 billion in 2012/13.
9) House prices: House Prices to Fall five per cent in 2012: We see house prices falling by five per cent overall in 2012, with most of the weakness coming in the first half. Furthermore, we believe that there are significant downside risks to this forecast. We suspect that low wage growth, a markedly weakening labour market and major concerns over the economic outlook will limit potential buyers and weigh down on house prices.
Furthermore, a significant number of people are still finding it hard to get a mortgage or raise the required deposit, and there is a very real danger that banks’ future ability to lend to home buyers could be hit by difficult wholesale funding conditions. These factors are seen outweighing the support to house prices coming from extended very low interest rates.
10) Sterling: The pound’s movements in 2012 are likely to be determined markedly by events in the Eurozone. At the moment, the pound is being supported by it being regarded by the markets as a “safe haven” from events in the Eurozone although its upside is limited by the fact that UK economic fundamentals are hardly strong for sterling. If Eurozone sovereign debt turmoil continues or worsens, the pound is likely to firm further.
However, if there a dilution of concern over the Eurozone, then sterling is likely to come under increased downward pressure from a greater focus on the poor UK economic fundamentals.
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