Download UK Economic Forecast Q3 2014 BUSINESS WITH CONFIDENCE icaew.com/ukeconomicforecast

UK Economic Forecast
Q3 2014
BUSINESS WITH CONFIDENCE
icaew.com/ukeconomicforecast
icaew.com/ukeconomicforecast
2
Introduction
Welcome to the ninth edition of the ICAEW Economic Forecast, based on the views of
the people running UK plc; ICAEW Chartered Accountants working in businesses of all
types, across every economic sector and across all regions of the UK, surveyed through the
quarterly ICAEW/Grant Thornton UK Business Confidence Monitor (BCM).
In this latest edition, we have slightly revised down our 2014 economic growth forecast
from 3.4% to 3.2%, reflecting what looks like a challenging environment for exports.
With the eurozone economy failing to grow in the second quarter of the year, driven by
weakness among major economies such as France and Germany, the prospect of a tradeled recovery anytime soon looks slim. Having said that, economic growth of 3.2% is still
solid and will be driven by a combination of consumer spending and a marked increase in
business investment. The UK still looks set to be the fastest growing G7 economy this year.
For the first time, we present our forecasts for 2015. The forecasts show economic
growth dipping but remaining solid at 2.6%. Growth will be curbed next year by a slight
slowdown in business investment in addition to declining government spending in the
next parliament. The fiscal deficit remains a significant issue and although the UK’s strong
recovery has driven up tax receipts, a failure to properly get to grips with government
spending means that cuts will be needed in the next parliament. This will weigh on growth
prospects. The latest public finances data for July show the national debt close to £100bn
higher than a year ago.
The UK’s labour market continues to go from strength to strength, with the unemployment
rate standing at 6.4% in Q2 2014 – the lowest rate since late 2008. ICAEW expects the
unemployment rate to average 6.2% for the year as a whole with a further fall to 5.5% in
2015. On the downside, average earnings growth remains weak and at least in part reflects
the fact that many jobs being created in the economy are relatively low paid.
ICAEW’s unemployment forecast suggests that the amount of slack in the labour market
will diminish over the coming quarters. In addition, BCM data show the share of businesses
operating below capacity in decline and, if recent trends persist, pre-crisis levels should be
reached by early 2015 or even late 2014.
With the amount of spare capacity in the economy declining, an interest rate rise from the
Bank of England looks increasingly likely. On balance, ICAEW expects a rate rise to come in
early 2015 rather than late 2014. Weak earnings growth and high levels of spare capacity
in sectors such as manufacturing mean that the Bank is likely to wait until next year before
raising rates, to ensure that recoveries in more fragile parts of the economy are not derailed.
icaew.com
icaew.com/ukeconomicforecast
3
Economic outlook
FIG. 1 REAL GDP – ANNUAL GROWTH
% 4
3.4
FIG. 2 REAL GDP – INDEX (2007 = 100)
3.2
3
1.7
2
1
106
2.6
1.7
1.1
0
100
100
99.2
94.1
95.7
96.7
97.0
98.7
2007
2008
2009
2010
2011
2012
2013
98
-0.8
-2
96
-3
94
-4
92
-5
-6
101.9
102
0.3
-1
104.5
104
-5.2
2007
2008
2009
2010
2011
2012
2013
2014f 2015f
90
2014f 2015f
Source: ONS, ICAEW forecasts
The UK economy is expected to
grow by 3.2% this year, slightly
down on our previous forecast
of 3.4%. Economic growth is
expected to slow but remain
solid at 2.6% in 2015.
Gross Domestic Product (GDP) in the
UK grew at a quarter-on-quarter rate
of 0.8% in Q2 2014, according to the
Office for National Statistics’ (ONS’)
second estimate of growth in the
quarter – the same pace of expansion
seen in the first quarter of the year.
ICAEW’s latest forecasts predict
that the UK economy will grow by
3.2% this year, slightly down on our
previous forecast of 3.4% growth but
still a solid economic performance
which should see the UK growing
faster than every other G7 economy.
The downward revision to growth
reflects continuing challenges in
generating a sustained export-led
recovery in the UK, something which
has been held back by continued
weaknesses in some of the country’s
main export markets – most notably
those in the eurozone. The single
icaew.com/ukeconomicforecast
currency area’s economy saw no
growth in the second quarter of
2014 and, worryingly, weakness was
chiefly driven by poor performance in
the bloc’s three largest economies –
Germany, France, and Italy.
ICAEW’s first forecast for 2015 shows
UK economic growth slowing to
2.6%. While still a respectable rate
of expansion, additional growth will
be held back by continued difficulties
in generating a trade-led recovery
in addition to the sizeable amount
of austerity that will need to be
undertaken in the next parliament.
The latest public finance figures
show that while the recovering
economy is boosting tax receipts
for the government, high levels of
spending are keeping the deficit high.
Significant cuts will need to be made
beyond this year, and this is going to
weigh on economic prospects.
4
Business investment
FIG. 3 REAL BUSINESS INVESTMENT – ANNUAL GROWTH
% 15
13.7
8.8
10
4.0
5
5.2
3.9
1.7
0
-1.0
-1.3
-5
-10
-15
-20
-15.2
2007
2008
2009
2010
2011
2012
2013
2014f
2015f
Source: ONS, ICAEW forecasts
Two years of strong business
investment growth are
expected, though 2014 is set
to be stronger than 2015.
ICAEW has revised up its real business
investment growth forecast to 8.8%
for 2014, with businesses reporting
strong capital spending growth in
Q3. This is up from a previous forecast
of 8.2%.
The rate of expansion in business
investment is expected to slow but
remain strong next year, standing at
5.2%, with ICAEW data showing that
businesses expect capital spending
growth to dip slightly over the
next 12 months. Concerns about
the eurozone, fiscal austerity in the
next parliament and the prospect
of interest rate rises are expected to
lead to investment growth cooling
from current levels. In addition, political
uncertainty – on Scottish independence,
future UK membership of the EU and
the outcome of the general election –
could be holding back some investment
growth.
icaew.com/ukeconomicforecast
Businesses continue to sit on sizeable
cash reserves, reflecting the fact
that although investment is picking
up, businesses on the whole remain
relatively more cautious than before
the financial crisis. Corporate cash
reserves stood at over £500bn at the
start of the year – a significant pool of
funds which could be translated into
investment if businesses become more
confident about the prospects for
growth beyond the short term.
Overall, despite a slowdown, the
outlook for business investment
next year is strong, and businesses
will increasingly need to invest to
meet rising demand as the economy
expands – so we may see businesses
starting to tap into their cash reserves
or seek capital elsewhere.
5
Labour market
FIG. 4 AVERAGE EARNINGS – ANNUAL GROWTH
% 6
5
FIG. 5 UNEMPLOYMENT RATE, %
%
9
8.5
4.9
8
4
2.3
2.1
1.3
1.3
1.3
1
7.9
7.6
6.5
2009
2010
2011
2012
2013
2014f 2015f
6.2
6
5.5
0.0
2008
8.1
7
2.4
2
2007
7.8
7.5
3.5
3
0
7.7
5
5.7
5.5
5.3
2007
2008
2009
2010
2011
Source: ONS, ICAEW forecasts
Source: ONS, ICAEW forecasts
The economy continues to
create a significant number of
jobs, with unemployment
falling sharply. This trend looks
set to continue into 2015,
reflecting strong hiring
intentions among businesses.
In the three months to June 2014, the
unemployment rate stood at 6.4%,
the lowest since late 2008. There were
30.6m people in work, 167,000 more
than in Q1 2014 and 820,000 more
than a year earlier as private sector job
creation more than offset reductions in
headcount in the public sector. ICAEW
expects the unemployment rate to
continue falling, averaging 6.2% this
year and 5.5% in 2015.
On the downside, ICAEW has lowered
its average earnings growth forecast,
from 2.2% to 1.3% for this year. This
downward revision is partly due to
the fact that a significant share of
jobs created at present are relatively
low skill – something which the
Bank of England has noted in its
August Inflation Report. This so-called
‘employment mix’ effect, which
pushes down average earnings in the
economy, is estimated to be shaving
icaew.com/ukeconomicforecast
2012
2013
2014f 2015f
about 0.3 percentage points off
regular pay growth at the moment.
Earnings growth is expected to pick up
from current levels to reach 2.1% in
2015, with faster growth in the private
sector partially offset by continued pay
restraint in the public sector.
Under the Bank of England’s policy
of forward guidance, the amount
of slack in the labour market is a
key determinant of the future path
of interest rates, with the Bank
committed to keeping rates on
hold until the slack in the market
is significantly reduced. The latest
data, which show rapidly falling
unemployment, suggest that slack is
diminishing. ICAEW’s latest forecasts
suggest spare capacity in the labour
market will decline further over the
coming quarters, which could pave
the way for the first change in interest
rates since 2009.
6
Focus on: Spare capacity: an interest rate rise this year or next?
FIG. 6 SHARE OF BUSINESSES OPERATING
BELOW CAPACITY
FIG. 7 BANK OF ENGLAND BANK RATE
% 70
%6
60
5
50
40
30
20
4
3
2
10
1
0
0
Q1
Q3
Q1
Q3
Q1
Q3
Q1
Q3
Q1
Q3
Q1
Q3
Q1
Q3
Q1
2008 2008 2009 2009 2010 2010 2011 2011 2012 2012 2013 2013 2014 2014 2015
2004 2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
Sources: ICAEW/Grant Thornton Business Confidence Monitor, Bank of England
Declining spare capacity in
the economy should pave the
way for the first change in the
Bank Rate since 2009. On
balance, the first rate rise is
more likely to take place in
early 2015 than later this year.
Spare capacity in the economy has
become a key factor determining the
future path of interest rates under the
Bank of England’s policy of forward
guidance, so indicators which provide
a steer on the extent of this ‘slack’ –
inherently hard to define and measure
– have become increasingly important.
The Bank estimates that slack in
the economy is diminishing as the
economy continues to improve,
something which is also apparent in
BCM data which show the share of
businesses operating below capacity
on a downward path. The share has
declined from 62% at the end of 2012
to 50% this quarter. If spare capacity
continues to decline at the rates seen
in 2014 to date, then the share of
businesses operating below capacity
will stand at pre-recession levels by
early 2015 or possibly towards the
end of this year.
icaew.com/ukeconomicforecast
The Bank of England base rate has
been on hold at 0.5% for over five
years, so any increase in rates will be
seen as a significant event. Speculation
about the timing of the first rate rise
has been rife in recent months as the
UK’s economic outlook has continued
to improve, and this has intensified
following the release of minutes from
the Monetary Policy Committee’s
(MPC’s) August interest rate decision.
The minutes showed the first split in
the vote on interest rates since 2011,
with two MPC members voting for
a rate rise and seven voting to keep
rates on hold.
On balance and for a number of
reasons, ICAEW’s forecasts suggest
that a rate rise in early 2015 looks
more likely than a rise this year. Firstly,
the weakness of earnings growth this
year means that many households
may struggle with the financial
7
Focus on: Spare capacity: an interest rate rise this year or next? (continued)
pressures created by even a modest
increase in interest rates. Secondly,
there are significant sector variations
in spare capacity, and raising rates
too soon could damage some
more fragile parts of the economy
such as manufacturing. BCM data
show 69% of manufacturing firms
operating below capacity this quarter,
suggesting that these companies
would be vulnerable to a tightening
of monetary policy.
Even when rates rise, increases are
likely to be very gradual and subdued.
The economy is recovering, but
there are still significant challenges
– in particular for exports and public
finances. Failure to achieve a trade-led
expansion could hold back the UK’s
longer term growth prospects, while
fiscal austerity to deal with the sizeable
public sector deficit will be needed in
the next parliament. Bank of England
icaew.com/ukeconomicforecast
governor Mark Carney has suggested
the ‘new normal’ for interest rates is
likely to be about 2.5% when rates
start to increase, much lower than the
average of 4.7% seen between 2000
and 2007.
It will be important that monetary
policymakers continue to nurture
the UK’s economic recovery through
setting appropriate interest rates. With
the inflationary environment modest
at present, there is little pressure to
raise rates in the short term and the
Bank’s Monetary Policy Committee
should therefore refrain from raising
rates too fast or too soon – there is no
need to do so. To maintain business
investment and consumer spending,
it will be important that the Bank of
England effectively communicates that
the path of future interest rates will be
gradual and limited.
8
Forecasting methodology
Headline economic forecasts
2007
2008
2009
2010
2011
2012
2013
2014f
2015f
Real GDP – annual growth
+3.4%
-0.8%
-5.2%
+1.7%
+1.1%
+0.3%
+1.7%
+3.2%
+2.6%
Real business investment – annual growth
+13.7%
+4.0%
-15.2%
+1.7%
-1.3%
+3.9%
-1.0%
+8.8%
+5.2%
2007
2008
2009
2010
2011
2012
2013
2014f
2015f
Earnings (total pay) – annual growth
+4.9%
+3.5%
+0.0%
+2.3%
+2.4%
+1.3%
+1.3%
+1.3%
+2.1%
Employment – annual growth
+0.7%
+0.7%
-1.6%
+0.2%
+0.5%
+1.2%
+1.3%
+2.8%
1.5%
Unemployment rate
5.3%
5.7%
7.7%
7.8%
8.1%
7.9%
7.6%
6.2%
5.5%
Labour market forecasts
ICAEW’s forecasts for economic
growth, business investment and the
outlook for the labour market are
based on the correlation between
ICAEW/Grant Thornton Business
Confidence Monitor (BCM) indicators
and official economic data. BCM
contains data – from a survey of
1,000 UK businesses – on business
confidence, financial performance,
challenges and expectations. BCM
indicators provide a useful and unique
steer on future developments in the
UK economy.
icaew.com/ukeconomicforecast
9
About Cebr
Centre for Economics and Business Research is an independent consultancy with a reputation for sound
business advice based on thorough and insightful research. Since 1992, Cebr has been at the forefront of
business and public interest research. They provide analysis, forecasts and strategic advice to major UK and
multinational companies, financial institutions, government departments and agencies and trade bodies.
For further information about Cebr please visit www.cebr.com
ICAEW is a world leading professional membership organisation that promotes, develops and supports over
142,000 chartered accountants worldwide. We provide qualifications and professional development, share
our knowledge, insight and technical expertise, and protect the quality and integrity of the accountancy
and finance profession.
As leaders in accountancy, finance and business our members have the knowledge, skills and commitment
to maintain the highest professional standards and integrity. Together we contribute to the success of
individuals, organisations, communities and economies around the world.
Because of us, people can do business with confidence.
ICAEW is a founder member of Chartered Accountants Worldwide and the Global Accounting Alliance.
www.charteredaccountantsworldwide.com
www.globalaccountingalliance.com
ICAEW
Chartered Accountants’ Hall Moorgate Place London EC2R 6EA UK
T +44 (0)20 7920 8705
E [email protected]
icaew.com/ukeconomicforecast
linkedin.com – find ICAEW
twitter.com/icaew
facebook.com/icaew
© ICAEW 2014 09/14