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The macroeconomic environment Alan Wilson Oxford Economics November 2009 The twin perils of economic forecasting (as summarised by Sir Paul McCartney, 1965) 1) “Yesterday, all my troubles seemed so far away…” 2) “Now it looks as though they’re here to stay” 2 Key issues The global background Is the UK on the road to recovery? Will there be another boom in private services? 3 The Global Background - who has suffered the most? Recession expected to hit hardest those most exposed to financial services… Dependence on financial services % of GVA 12 10 8 6 4 2 0 UK US Neth Source : Oxford Economics 5 Italy Spain Japan France Swe Ger ..where house prices were most excessive.. 6 …and with the highest consumer debt 7 But credit conditions worsened in sync… World: Credit growth % year 16 14 UK M4 lending ex OFCs US loans & leases 12 10 8 6 4 2 Eurozone loans to PNFCs and households 0 -2 -4 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 Source : Oxford Economics/Haver Analytics 8 … and synchronised global slump in confidence Consumer confidence: US, UK and Eurozone 1985=100 160 % Balance 20 US (LHS) UK (RHS) 140 120 10 0 100 -10 80 Eurozone (RHS) 60 -20 -30 40 -40 20 0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 Source: Haver Analytics 9 -50 What explains who suffered most? The financial shock was surprisingly similar across countries, as was its impact on confidence So financial crisis became a full-blown corporate crisis, with the countries most exposed now those most dependent on: ■ Manufacturing and trade –especially in capital goods and cars ■ Capital flows ■ Oil and commodity exports Hence, Germany and Italy, as well as Eastern Europe, actually suffered worse recession than the US and UK 10 Who has actually suffered most? % change in GDP Russia Ireland Japan Hungary Italy Germany Czech Rep UK Slovakia Netherland Austria Spain US Portugal Belgium Canada France Korea Brazil Greece Poland India China -12 -10 -8 Source: Haver Analytics 11 -6 -4 -2 0 2 4 6 % change 2008Q2-2009Q2 8 First signs of recovery… World: Purchasing Managers' Indices Index 65 US Manufacturing ISM Eurozone Manufacturing PMI 60 55 50 45 40 35 UK Manufacturing PMI 30 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 Source: Haver Analytics 12 …and strong recovery in equity prices Equity prices 1 Jan 2008=100 110 100 90 80 70 60 50 US UK Germany France 40 Jan-08 Apr-08 Jul-08 Oct-08 Jan-09 Apr-09 Source : Oxford Economics/Haver Analytics 13 Jul-09 Oct-09 Monetary policy on full throttle… 14 …as is fiscal policy World: fiscal stimulus packages % of GDP 16 14 Headline package 12 Estimated new money 10 8 6 4 2 0 UK EZ US Source : Oxford Economics/Haver Analytics 15 Japan China How strong will recovery be? Likely to be robust initially because of swing in inventory cycle and rebound in world trade And policy remains very expansionary But likely to be bumpy and slower than ‘normal’: ■ Recoveries from banking crises usually slower ■ Household financial correction has some way to go ■ Business investment likely to be slow to recover given large overhang of spare capacity in many sectors, slowing recovery in countries dependent on capital goods ■ Car sector will be adversely affected when scrappage schemes end ■ Rising oil prices good for Russia but bad for most 16 Oxford Economics’ forecast World GDP Growth % Change on Previous Year 2008 2009 2010 2011 2012 2013 US 0.4 -2.5 2.5 3.0 3.2 3.4 Eurozone 0.6 -4.0 0.6 1.5 2.3 2.4 Germany 1.0 -5.0 1.1 1.5 2.2 2.5 France 0.3 -2.2 0.9 1.5 2.2 2.3 -1.0 -5.0 0.4 1.5 1.6 1.6 0.6 -4.4 0.7 2.2 3.1 3.4 -0.7 -5.6 1.2 1.6 2.1 2.5 South Korea China India Other Asia 2.2 8.9 7.5 3.8 -0.8 8.8 5.9 -1.7 3.7 9.3 6.8 2.5 4.6 9.0 8.8 3.7 4.9 9.0 9.0 4.2 4.6 8.9 8.8 4.1 Mexico Other Latin America 1.4 4.9 -6.7 -0.8 4.6 2.8 5.1 4.6 5.4 5.0 4.8 4.3 Eastern Europe 5.5 -6.1 1.8 4.1 5.3 5.2 World World (PPP) 1.6 2.9 -2.2 -1.2 2.6 3.3 3.5 4.2 4.0 4.8 4.1 4.8 of which: Italy UK Japan 17 The UK Forecast - on the road to recovery? UK still in recession… World: GDP %/quarter 1.5 UK US Eurozone 1.0 (f) 0.5 0.0 -0.5 -1.0 -1.5 -2.0 -2.5 -3.0 Q1 Q2 Q3 2008 Source : Haver Analytics 19 Q4 Q1 Q2 2009 Q3 …but was September really that bad? UK: Monthly output estimates %/month 2 Manufacturing Services 1 0 -1 -2 -3 -4 Jan Feb Mar Apr May Source : Oxford Economics/Haver Analytics 20 Jun Jul Aug Sep Services weakness doesn’t tally with…. UK: Services output Jan 2009=100 101 Finance & business services Government & other services 100 99 98 97 96 95 Jan Distribution, hotels & catering Feb Mar Transport & communications Apr May Source : Oxford Economics/Haver Analytics 21 Jun Jul Aug Sep …strong rebound in survey data… UK: Purchasing managers survey % balance* 65 60 *value over 50 indicates rising activity Services business activity 55 50 45 40 Manufacturing activity 35 30 1997 1999 2001 Source: Haver Analytics/Markit 22 2003 2005 2007 2009 … and firm retail sales figures… UK: Retail sales volumes %3m/year 9 % balance 80 8 60 CBI DTS (RHS) 7 40 6 5 20 4 0 3 2 -20 ONS (LHS) 1 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 Source : Oxford Economics/Haver Analytics 23 -40 -60 …while house prices have surged recently UK: Nationwide house price index % year 40 % 3-month annualised 30 20 % year 10 0 -10 -20 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 Source: Haver Analytics 24 £200bn of QE authorised to date… UK: APF asset purchases £bn 200 180 160 140 120 100 80 60 40 20 0 Mar Apr Ma Jun Source : Bank of England 25 Jul Aug Sep Oct Nov De Jan …but credit scarce for businesses UK: MFI lending to UK PNFCs %/year 25 20 15 10 5 0 -5 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 Source : Bank of England Source : Bank of England 26 Household correction has some way to go Fall in household wealth (% of GDP) % of GDP 0 -10 -20 -30 -40 -50 -60 -70 -80 -90 -100 US UK Source : Oxford Economics 27 Spain France Italy Germany …and unemployment will rise into 2010 UK: Unemployment % 11 Forecast 10 9 8 7 ILO 6 5 4 Claimant count 3 2 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 Source: Oxford Economics 28 Fiscal deficit will continue to climb UK: Maastricht indicators % of GDP % of GDP 14 100 12 10 8 90 Government balance (LHS) 6 80 Government debt (RHS) 70 60 4 50 2 40 0 F'cast -2 30 1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 Source: Oxford Economics 29 UK forecast Forecast for UK (Annual percentage changes unless specified) Domestic Demand Private Consumption Fixed Investment Stockbuilding (% of GDP) Government Consumption Exports of Goods and Services Imports of Goods and Services GDP Industrial Production CPI Current Balance (% of GDP) Government Budget (% of GDP) Short-Term Interest Rates (%) Long-Term Interest Rates (%) Exchange Rate (US$ per £) Exchange Rate (Euro per £) 30 2008 2009 2010 2011 2012 2013 0.1 0.9 -3.3 0.1 2.5 1.0 -0.8 0.6 -3.1 3.6 -1.6 -5.2 5.49 4.59 1.85 1.26 -5.2 -3.1 -15.2 -1.0 2.1 -10.4 -12.6 -4.4 -9.9 2.0 -2.3 -11.7 1.20 3.64 1.56 1.12 0.2 -0.5 -3.1 -0.2 0.7 2.7 0.8 0.7 0.5 1.3 -1.9 -13.1 0.60 4.08 1.69 1.16 1.4 1.5 1.4 0.3 -1.0 6.3 3.4 2.2 2.4 1.1 -1.1 -11.6 1.24 4.90 1.75 1.25 2.4 2.8 4.4 0.2 0.5 7.9 5.4 3.1 2.9 1.4 -0.5 -9.2 2.24 5.17 1.77 1.33 3.0 3.6 4.9 0.1 0.8 6.2 5.0 3.4 2.3 1.7 -0.2 -7.4 3.24 5.20 1.73 1.35 Sectors and Regions - can private services be the engine of growth again? 16 years of continuous growth Private Services GVA £m, 2005 prices 700 per cent 65 Share of Whole Economy 63 61 600 59 57 500 55 Volume (4.0% p.a., 1992-2008) 400 53 51 49 300 47 200 1981 45 1985 1989 1993 1997 Source : Oxford Economics/Haver Analytics 32 2001 2005 2009 A Major driver of UK employment growth Private Services Employment 000's 18000 per cent Share of Whole Economy 17000 56 54 16000 52 15000 50 Jobs 14000 (1.8% p.a., 1992-2008) 13000 46 12000 44 11000 42 10000 1981 40 1985 1989 1993 Source : Oxford Economics/Haver Analytics 33 48 1997 2001 2005 2009 Two boom periods – late 1980s + 1993-01 Employment Growth per cent p.a. 5 Private Services 4 3 2 1 0 -1 -2 -3 -4 1982 Whole Economy 1986 1990 1994 Source : Oxford Economics/Haver Analytics 34 1998 2002 2006 Consumer Spending is the main driver Private Services GVA and Consumer Spending per cent p.a. 10 8 Consumer Spending Private Services 6 4 2 0 -2 -4 -6 1982 1986 1990 1994 Source : Oxford Economics/Haver Analytics 35 1998 2002 2006 But services exports have outstripped manufactures… Export Growth 2004-7 Finance & Business Services Distribution & Hotels PAD, Education & Health Manufacturing Transport & Communications Other Services 0 5 10 15 20 25 per cent, current prices 36 30 35 40 …even in absolute terms Change in Exports 2004-7 35000 30000 £million 25000 20000 15000 10000 5000 0 Manufactures 37 Private Services The forecast Private sector services will recover as the economy recovers but.. Growth will be more like 2001-8 than 1992-01 Productivity growth may be weaker in some industries Jobs growth in most sectors but biggest increases in business services Return to export growth will help drive financial and business services growth even though: Domestic financial service may lag behind and international financial and business services may have more scope for growth (despite the credit crunch!) 38 Which areas will struggle to provide jobs and economic activity? Domestic financial services (retail banks, call centres, mortgage brokers etc) Retail? Public sector Construction – eventual end of public infrastructure boom; still capital around for private sector but problems with excess capacity and risk aversion; residential could be an exception Issue: what can lead re-generation if retail, public sector and financial services demand is lacking? 39 Where will growth come from? Internationally traded services (financial, computer services, business services, retail?) Continued growth of contracted out business services Leisure – if exchange rate stays competitive 40 World demand very important Exports of Services £m, 2005 pr 40000 35000 Long-run elasticities: 30000 World Investment: Relative ULC: 25000 1.97 -0.34 20000 15000 10000 Source : Oxford Economics/Haver Analytics 41 08 20 06 20 04 20 02 20 00 20 98 19 96 19 94 19 92 19 90 19 88 19 86 19 84 19 82 19 19 80 5000 Risks to the economic outlook Short-term outlook ‘W’-shaped cycle 42 25% ‘V’-shaped recovery ■ Growth initially boosted by inventory rebuild ■ But final demand remains weak as banks and households keep deleveraging ■ Oil/commodity price spike ■ Growth sluggish again in 2010H2 and 2011 after initial bounceback Deflation (‘L’-shape) 7.5% ■ Renewed asset price weakness holds back banking recovery ■ Unemployment rises sharply further depressing consumption ■ Monetary/fiscal policy not effective as deflation grips ■ Economy flatlines in 2010 and beyond 20% ■ Return to growth boosts business and consumer confidence ■ Fiscal and monetary stimuli feed through quickly ■ Financial market rally becomes firmly established ■ Strong global rebound and weak pound boost exports Oxford forecast (‘U’-shape) 45% ■ Monetary easing blunted by weak banks but eventually works ■ Gradual rise in business and consumer confidence ■ Bumpy growth profile due to VAT effect ■ Weak recovery in 2010, gaining traction in 2011 Medium-term outlook Conclusions The UK recovery has lagged its competitors Some bounce in the economy still likely to be happening in 2009H2 (first estimate of Q3GDP likely to be revised up) But much of the bounce is due to short-term factors and, with private demand remaining very weak, growth is likely to dip in 2010H1 Cautious recovery, with most people reluctant to over-spend… …including Her Majesty’s Government Leaving us dependent upon investment & exports and hence world recovery Nevertheless, wrong to assume a weak economy is here to stay, and private services are likely to lead the way in providing new jobs as recovery becomes established 43