Vicky Pryce, Senior Fellow, BCU Centre for Brexit Studies
Rachel Reeve, the Shadow Chancellor, in her latest speech accused the government of ‘gaslighting’ Britain over the state of the UK economy. Interestingly just as elections for a number of councils across England, metro mayors and police commissioners were taking place on May 2, the latest forecasts from the Organisation for Economic Cooperation and Development (OECD) flashed on our screens . Most people on their way to the polls will have missed it which is lucky as it didn’t make pretty reading. Yes we knew about only slow recovery from the technical recession in the second part of 2023 and that we could only hope for a rather hesitant recovery from that this year. True, manufacturing activity remains subdued having fallen back again last month after a brief uptick in March. But at least we have been seeing a month-on -monthly rise in service sector activity for a while now, which seems to have continued through to April. And with consumer confidence back up again in April and business confidence showing a more sustained improvement of late, the outlook seemed a bit brighter.
Yet the OECD if anything downgraded prospects for 2024. Growth in the UK according to them would be slower than their earlier estimates, at just 0.4% , and well below the 0.8% growth forecast by Office for Budget Responsibility’s at the time of the March budget.
That is still above Germany’s anticipated 0.2% growth but still nothing to write home about. More worrying are the forecasts for next year where, when UK growth of just 1%, though improving somewhat, slightly below Germany’s 1.1%, making the UK the worst performer in the G7 under those projections.
What is the reason? Well, the arguments are well rehearsed by now. High real interest rates at a time of generally falling inflation are affecting all regions. Interest rates were left unchanged again at a 23 year high by the Federal Reserve Board this week. But the US economy is softening this by continued stimulus spending , including through its Inflation Reduction Act. The EU , which was also in technical recession in the last six months of last year, is helping countries directly by continuing its disbursement of its NextGenerationEU fund and seeing a strong growth rebound in the first quarter of 2024. The UK is instead tightening on both fronts, fiscal and monetary. That takes its toll.
Indeed worries that US rates may be coming down later than thought, and that this would impact on both UK and European Central Bank (ECB) decisions, have worried markets. UK mortgage rates have been raised again by many banks and building societies . Not surprisingly, and despite the recent rise in mortgage approvals, house prices fell in April for the second month running. Retail sales were 4% down in April on a year earlier according to the British Retail Consortium. Concerns that perhaps the monetary tightening may have been overdone are multiplying. And not just here. Inflation in many countries in Europe for example is at or below the target and there is a growing voice of opinion that economies may need a bit of an extra monetary boost while the fiscal room for manoeuvre is limited. This may indeed mean that the ECB and the Bank of England cut interest rate first and the US, with a much stronger economic recover, follows after.
Perhaps there are of course crucial elections for the European Parliament in June, general elections in the UK predicted for the autumn(but could be earlier), and the US presidential elections in November. The political clamour for cuts in rates is bound to intensify. Interesting therefore to note that the Fed, while keeping rates on hold, also announced that it will reduce the amount of Quantitative Tightening(QT ) it engages in each month from $60b to just $25b a month, starting June 1 , presumably to leave a bit more liquidity in the market and relieve some of the upward pressure on bond yields- and mortgage rates too.
Going back to politics, the general view is that if Interest rates start coming down before the various planned elections, this is likely to be good for the incumbent political parties. The central banks, one must assume, are acutely aware of this. Economists of course stress the importance and benefits of central banks retaining their independence from politicians. But what comes next given the history of the last couple of years is highly uncertain. Indeed Donald Trump is already rumoured to be intending to be actively involved in interest rate decisions if he wins. Make of that what you wish..
Vicky Pryce is a board member at CEBR, Visiting Professor at BCU and King’s College London, and former Joint Head of the UK Government Economic Service. Her books include ”It’s The economy , Stupid, Economics for Voters’, with Ross and Urwin
Centre for Brexit Studies Blog 