EY forecast makes solid predictions
The UK economy continues to display a lack of momentum and shows little sign of breaking the pattern of uninspiring growth seen in 2017, says the latest forecast from the EY ITEM Club.
The EY ITEM Club’s Spring Forecast expects UK GDP to grow by 1.6 per cent in 2018 (a modest downgrade from 1.7 per cent in the EY ITEM Club’s Winter Forecast), and then by 1.7 per cent in 2019 (unchanged).
The severe weather seen at the end of February and the first half of March appears to have weighed down significantly on economic activity at the beginning of the year. The EY ITEM Club expects that GDP growth in the first quarter of 2018 was dragged down to around 0.2-0.3 per cent quarter-on-quarter (q/q) but forecasts it to bounce back to 0.5 per cent q/q in the second quarter as some of the activity lost to the severe weather is made up.
Howard Archer, chief economic advisor to the EY ITEM Club comments: “The UK economy is chugging along at a fairly steady but uninspiring rate. On the surface, the outlook appears stable. Inflation, which impacted consumer spending last year, continues to drop and we expect a tight jobs market to deliver some uptick in pay growth. Significantly, a transitional Brexit agreement between the UK and EU has been agreed which should also bring some certainty to businesses and support investment, although it still needs to be ratified. However, these factors may be offset by rising interest rates, a recovery in sterling’s value and still appreciable Brexit uncertainties bringing new headwinds over the year.”
Positives and negatives for consumers
Consumers can expect to see a ‘double positive’ for real income growth, with inflation set to fall and stronger pay growth anticipated. The EY ITEM Club forecasts real household income growth to hit 1.1 per cent in 2018 and 1.4 per cent in 2019, a substantial improvement on 2017’s 0.2 per cent rise.
However, with the household saving ratio expected to stabilise after hitting a record low (5.1 per cent) in 2017, and the strength of the jobs market reducing scope for further employment gains, the EY ITEM Club says that stronger income growth is unlikely to result in an improvement on 2017’s 1.7 per cent rise in consumer spending. The EY ITEM Club forecasts consumer spending growth to weaken to 1.2 per cent in 2018 before rebounding to 1.6 per cent in 2019 as inflation is limited to around 2 per cent over the year, earnings growth picks up modestly further, the freeze on working-age benefits ends, and household balance sheets strengthen.
Two interest rate hikes expected in 2018
According to the report, the combination of a tight labour market and firming earnings growth are likely to fuel the hawkish instincts of the Monetary Policy Committee (MPC) and result in two interest rate rises in 2018. The EY ITEM Club is also now forecasting two additional rate hikes in 2019 as the Bank of England looks to gradually but steadily normalise monetary policy.
Howard Archer, chief economic advisor to the EY ITEM Club comments: “Raising interest rates this year is not an open and shut case for the MPC. With inflation heading down and the Bank of England’s view of the supply-side of the economy arguably too pessimistic, two rate hikes this year risk exerting unnecessary pressure on consumers.
“However, the impact on growth from higher interest rates should be limited by the proportion of households with a mortgage, which currently lie at their lowest levels. There has also been a shift from variable-rate to fixed-rate mortgages in recent years. In addition, the burden of interest payments to the average household was at a record low at the end of 2017, and so consumers are in a relatively healthy position to cope with dearer money.”