Economy slowed sharply in q1
The UK economy slowed sharply in the first quarter of the year, with the second estimate of GDP pointing to a modest 0.1% expansion. While a significant proportion of the slowing is likely to reflect the poor weather that hit the country in February and March - affecting the construction sector in particular - the modest overall performance suggests the story of hard pressed consumers on the back of elevated prices remained relevant in the opening months of the year.
There are also concerns that the global economy upswing, which has been evident over the last year, could be coming to an end with a run of weaker data points over the last few months.
What does this mean looking ahead?
Despite the weak start to the year the narrative behind our forecasts remains broadly unchanged from our last Manufacturing Outlook. As we will go through now, this year we still expect investment growth to be subdued and for net trade to contribute positively to growth, while private consumption is also set to be weak as Brexit uncertainty and falling confidence hold back spending, despite modest improvements in prospects for consumers.
Private consumption set to remain subdued despite improved prospects
The story of rising inflation and weak wage growth hitting consumer pockets has been dominating the media narrative over the last year. However there are signs that the dynamic is changing. Inflation fell to 2.4% in April, its lowest level for over a year as the effect of Sterling’s depreciation fades. We expect CPI to reach 2% by the end of 2018 and average 1.8% in 2019. Meanwhile wages, on the back of a labour market which continues to perform well, increased by 2.9% in the year to March, meaning real wages turned positive for the first time in a year. The prospects for consumers therefore appear to be improving.
However despite this, Brexit uncertainty still looms large. Uncertainty, the fact that any wage increases for the time being are still modest, and that the UK savings ratio remains exceptionally low, means consumers are refraining from “splashing the cash” despite the squeeze on households moderating.
Business investment outlook still subdued
We continue to forecast some modest growth in business investment this year, but ongoing Brexit negotiations means there are significant risks in our forecast period. Therefore while our investment forecast is positive, it is not as positive as one would expect given the economic climate, with uncertainty still likely to impede some larger scale investment decisions.
Net trade contributes positively to growth
Net trade is also expected to contribute positively to growth, with exports continuing to expand on the back of continued growth in global demand and Sterling remaining well below its level in the first half of 2016. There are risks to the downside however, especially given the recent developments in trade policy from the Trump presidency, and escalating tensions between the US and Iran. A tit for tat process could easily lead to escalation, with a cycle of retaliation having significant negative effects on trade prospects.
But what about 2019?
Clearly our forecasts, specifically for 2019, are dependent on some assumptions on the outcome of the Brexit negotiations. Compared to three months ago we still don’t have any clarity on what our post 2019 EU relationship will look like. However in order to forecast for 2019, we are still assuming that this will change over the second half of the year. We are assuming a March 2019 cliff edge will be avoided and a transition period will last at least until the end of 2020 i.e. clarity on the Brexit process will arise by the end of 2018. This of course, as Francesco blogged last time round, may change in the next few months and we are ready to review our assumptions if reality differs from what we are currently thinking. For the time being however, as clarity is gained, we are forecasting a modest improvement in GDP growth next year.
Our full forecasts can be seen below.
