The Chancellor’s Budget on March 15 proved more upbeat than expected, but economic uncertainty remains, says Ian Taylor
Chancellor Jeremy Hunt delivered a series of upbeat forecasts in his ‘Budget for growth’ last week, announcing the UK is now expected to avoid a recession this year.
Inflation has not only peaked but is forecast to fall to 2.9% by the end of 2023, according to the Office for Budget Responsibility (OBR).
The economy is still forecast to contract but by just 0.2% and to avoid a technical recession by not shrinking in consecutive quarters. The economy is then forecast to grow by about 2% a year through to 2027.
The news for households was better than expected despite a potential rise in the base interest rate from 4% on Thursday [March 24] when the Bank of England monetary policy committee meets.
Any increase in rate would impact on the costs of mortgages and borrowing.
Yet the prospect of another rate rise can only have been strengthened by the surprise news on Wednesday that headline inflation rose to 10.4% in February, up from 10.1% in January, when a fall below 10% had been widely forecast.
Food price inflation was blamed for the increase.
A weekly earlier, Hunt had confirmed the government’s cap on household energy bills would remain for the three months to June along with a 12-month freeze on fuel duty and promised 30 hours a week free childcare for working parents of one and two-year-olds in term time.
The Chancellor also sweetened the pill of a planned rise in corporation tax to 25% for business by allowing most companies to ‘fully expense’ investments of up to £1 million a year for the next three years, and he unveiled a series of measures aimed at encouraging people into work.
A halving of wholesale gas prices in the previous six months was the primary reason for the improved forecasts and the limited leeway on public spending the Chancellor exploited.
However, the outlook for the UK economy remains far from positive and not just because of February’s rise in inflation.
The business newspaper the Financial Times warned: “It’s essential not to be carried away. Business investment has stagnated since 2016 . . . The cost-of-living crisis remains severe. Real living standards are forecast to be lower in 2027-28 than before the pandemic.”
Real household disposable income per person is still expected to fall by 5.7% between 2022 and 2024 – making it the largest two-year decline since 1956-57.
Paul Johnson, director of the Institute for Fiscal Studies, said: “We’re in the middle of a decade in which incomes are barely rising at all.”
On top of this must now be added the fall-out from the unfolding banking crisis.
The past fortnight has seen three US banks fail and a fourth, First Republic, require a bail-out, and Swiss-based Credit Suisse – a bank of global importance – saved from collapse only by a forced, state-backed takeover by rival UBS.
Deloitte UK chief economist Ian Stewart noted: “Stress in the banking system tends to dampen business confidence and leads to tightening financial conditions.”
He warned: “We expect damage to the real economy from financial stress to keep trending higher as problems in the banking system and the effect of higher interest rates feed through.”
Stewart offered ‘good’ and ‘bad’ news on the banking crisis, noting the good news that “the banking sector is more tightly regulated than 15 years ago.”
But that could not mask the bad: “The last fortnight shows problems can migrate quickly and unexpectedly from one part of the system to another.”
Financial Times chief economic commentator Martin Wolf noted: “This is not how the post-2008 crisis regime was supposed to work . . . The vaunted reforms introduced after the global financial crash have not changed any [thing] that much.”
Writing yesterday (March 23), he warned: “It is still not clear how bad this crisis is going to be.”
Rising interest rates have been blamed for the banking crisis.
So there is a conundrum. Current economic orthodoxy says rising inflation must be met by higher interest rates. An improved economic outlook thus makes rate rises more likely. The UK Budget measures, by attempting to stimulate investment and demand, do the same.
But relieving the pressure on banks requires the opposite, meaning a whole new area of uncertainty about the economic outlook.
Chancellor Hunt insisted this week, ahead of the release of the latest inflation figure, that “bringing down” the “dangerously high” inflation rate remains the priority.
So we have a toxic combination of high inflation, falling living standards and a stagnating economy alongside an unfolding banking crisis.
That led Stewart to conclude the OBR forecast last week that the UK would avoid recession “now seems premature”. He warned: “Turmoil in the banking system raises the odds of a recession.”
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