A UK recession seems certain – the question is how deep will it be
There is a word for what is about to hit the UK economy and it is stagflation.
The combination of two dreaded terms in the economic lexicon – stagnation and inflation – should send ripples of apprehension and unease through the corridors of the Treasury’s Horse Guards Road offices and the Bank of England’s home on Threadneedle Street.
Once countries are locked into a period of low growth and high inflation, experience suggests that the exit is usually painful. And maybe it won’t even be weak growth that is the problem ahead, but a full-blown recession.
Earlier this week, the National Institute of Economic and Social Research (NIESR) became one of the first forecasters to predict a recession in the second half of this year, though its modelling showed it would be a modest affair such that the term stagnation was still appropriate.
After the official growth figures for the first quarter came in on Thursday below expectations at 0.8%, when the average forecast by City economists was 1%, the talk is no longer about whether there will be a recession, but how deep it will be.
The monthly figure for March GDP growth was negative, at -0.1%, indicating that economic activity had slumped since January’s 1% increase and a recession could be on its way at an even faster pace. Never mind waiting for the autumn, the periods covering the spring and summer could be negative.
“Suddenly, our forecasts that GDP will be flat in both the second quarter and the third quarter seem pretty optimistic,” said Paul Dales, the chief UK economist at the consultancy Capital Economics. “A contraction in GDP or a recession now feels a bit more likely.”
It feels as if the strength of the economy has drained away since February at an alarming pace. And the situation would have been much worse were it not for the 1.7% month-on-month rebound in construction output after the drag faded from Storm Eunice in February.
Kristin Forbes, the former Bank of England policymaker, told MPs on the Treasury select committee on Wednesday that the UK found itself in a bad place at the moment.
If a country has higher energy prices, a falling exchange rate, trade restrictions that push up goods prices, expectations among businesses and consumers of much higher inflation in a year’s time and a tight labour market – forcing wages higher, though not as high as inflation – the outlook is especially tough. Add into the mix a decade of modest inflation going into the pandemic, which most other countries have not had, pointing to a lack of underlying inflation in their economies, and you have an even worse situation.
“The UK is the only country to tick every box,” Forbes said.
Making matters worse, business investment remains 9.1% below its pre-pandemic level, despite a huge tax incentive to buy new equipment, and the trade deficit has widened again.
Can Rishi Sunak wait and watch all this play out in front of him? It seems hard to believe that Tory MPs will tolerate the hardship caused to their constituents after a local election result that pointed to even harsher defeats ahead.
Citizens Advice said on Thursday it is breaking records every month, and not in a good way. It has seen more desperate people unable to top-up their prepayment meter so far this year than in the whole of 2021. Demand for food bank vouchers has rocketed and struggling families cannot afford many of the basic necessities of life.
The chancellor is shy of increasing welfare payments to the bottom third of people who are the worst affected. It’s an ideological blind spot that by the end of the year could cost him his job.
As Torsten Bell, the head of the Resolution Foundation said: “This year is a disaster for poorer households and you do not get through that with no answer for them.”