Ernst & Young ITEM Club hails a UK ‘recovery that’s got legs’

15th July 2013

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UK GDP is projected to grow by 1.1% this year after a 0.2% rise in 2012 says the Ernst & Young Item Club. The report by the thinktank says that this is an economic recovery with legs. It adds that while this recovery has been kickstarted by a recovering housing market, global trends will eventually bring about more balanced growth.

Peter Spencer, senior economic adviser to ITEM Club says: “With consumer confidence returning and the Government’s initiatives to stimulate the housing market bearing fruit, consumers are switching their attention back from saving to spending.

“So far, so unbalanced. However, the better news is that from 2014 the consumer-led recovery will morph into much more balanced growth, as business investment and exports begin to rise more strongly. As a result, UK GDP growth will accelerate to 2.6% in 2015, and stay at around that level through to 2017”.

Spencer says that there are risks along the way including how successful the US is at managing the tapering-off of its support for the markets – the so-called “QExit”. Another is the challenges facing China in rebalancing from investment to consumption.

“But from 2014 onwards, the strong likelihood is that both these economies will present increasing opportunities for UK exporters to sell the branded consumer goods in which this country excels”, he says.

It notes that UK GDP is set to grow by 1.1% this year the same rate as in 2011 but on that occasion the nascent recovery was cut short by the Eurozone crisis.

“This year’s renewed growth is being driven mainly by consumer spending and the reviving housing market. However, this time around the recovery looks much more sustainable, and should be given legs by a rebound in business investment and exports from 2014. Combined with a continued revival in consumer confidence and spending, these factors will see UK GDP growth accelerate to 2.2% in 2014 and 2.6% in 2015”.

The report is then divided into relevant sections which we reproduce below.

The housing market

With UK consumers having focused on paying off their borrowings in recent years, UK household debt is now much better aligned with personal incomes, meaning consumers are ready to save less and spend more of their income. This shift will be supported by the Treasury’s well-timed initiatives to revive the mortgage market, which are triggering a steady acceleration in activity that will translate into national house price growth of 2.25% in 2013 and 5.5% in 2014. Beyond that the recovery should gain further momentum, as credit availability, incomes and employment all continue to improve.

Exports

Continuing weakness in the UK’s main export markets means the Government’s long-term plan to rebalance the economy away from consumption and towards exports and investment remains on hold. However, the global economy has been rebalancing remarkably well, and the outlook for UK exports is set to brighten markedly from 2014, driven by a strong US recovery. This improving trend will be supported by China’s shift of emphasis from investment and infrastructure building towards consumption – which will both open the door for UK exporters of consumer goods, and also reduce upwards price pressure on commodities that the UK imports. As a result, the UK’s current account deficit should narrow significantly during the coming years.

Consumer spending

The consumer recovery has been surprisingly robust during the past 18 months, underpinned by a pick-up in real income growth, rising employment and lower inflation. With the gradual improvement in economic activity boosting confidence, annual consumer spending growth will rise from 1.1% in 2012 to 1.7% this year, before accelerating further to 1.9% in 2014 and 2.4% from 2015-17.
However, with many households continuing to pay off debt, these year-on-year increases will be well below the annual average of 3.7% in the decade up to the financial crisis.

Downside risks

In our view, the recovery in the UK economy now in prospect has firmer and broader foundations than in 2011, and will become increasingly balanced as exports and investments pick up. It would take a major crisis to halt this recovery, on the scale of the Euro crisis that crushed the last embryonic upturn in early 2012. But the risks now look less threatening, and companies and consumers are both better placed to withstand external shocks. The new Bank of England Governor has further reduced the risks by providing forward guidance that the UK will keep interest rates low for a prolonged period to support the recovery. All these factors mean this is a recovery with legs.

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