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The UK Economy: An Update

01 March 2018

Growth slows, but better than feared. Despite continued uncertainty following the Brexit referendum and the surprising General Election result last June, the UK economy has demonstrated considerable resilience.

While growth slowed markedly in 2017 as consumer spending eased and the corporate sector held back on domestic decisions, the latest forecasts suggest that GDP still rose by 1.6% in 2017 - much better than many had previously feared but, admittedly, slower than most other advanced economies. And while a further slowdown is expected in 2018 and 2019, there is now some optimism that thereafter we will see a slow but steady upturn as greater clarity emerges concerning the Article 50 EU exit negotiations and as new trade deals are signed. While the after effects of the Global Financial Crisis linger on, the prospects of a return to recession have disappeared.

Inflation up but no need to panic

Sterling has fallen sharply against the euro and other major currencies since the Brexit referendum on 23 June 2016. This was largely been the cause of a rise in the rate of inflation to around 3% by the end of last year - explains the rise in interest rates from a record low of 0.25% to 0.5% by the Bank of England in November, the first rise in a decade. But any return to ‘normal’ interest rates is still a very long way off as the monetary authorities and the government keep a close eye on the pace and sustainability of economic growth.

A slowdown in consumer spending

Although the employment rate is now at a record high of over 75% (with more than 32 million people in work) and unemployment has fallen to the lowest rate since 1975 (at 4.3%), household incomes and spending are expected to remain under pressure with wage growth lagging inflation for the foreseeable future. Consumers have been eroding savings and building up debt to support their spending – but the Bank of England is understandably becoming increasingly concerned about the scale of borrowing by individuals and is putting pressure on the banking sector to slow down personal sector lending before another debt crisis erupts.

Recovery in business - investment is needed

Growth prospects for the economy in the coming years will to a great extent be dependent on a recovery in business investment and exports as the economy adjusts to new realities. Although corporate profitability is running at historically high levels business confidence is worryingly fragile. A revival in confidence is crucail– business investment is the ‘engine of growth’ – and depends critically on greater clarity surrounding the Brexit terms. Many commentators are reporting that a transition agreement with the EU is inevitable and desirable. If this emerges then we can expect a sharp rebound in corporate investment – particularly in those sectors most affected by Brexit such as the motor industry. At the same time the promise made by the Chancellor to cut the corporate tax rate to 17% by 2020 is also regarded as an essential ingredient for recovery in business sector confidence and investment longer term.

Pressure on the government will continue

The government has announced that it remains committed to achieving a balanced budget by the mid 2020s. However, some slowdown in the public sector spending cuts is expected as pressure continues to mount for raising still further the cap on public sector pay, particularly for front-line workers. But fiscal discipline will continue although at a much-reduced pace.

While the earlier mood of gloom and doom has lifted, the economy continues to face many risks and uncertainties. The government is faced with the challenges of supporting growth, stabilising inflation and the currency alongside restoring business sector confidence – and remaining in power. At the same time, it is under pressure to restore the confidence of the general public as details concerning the Article 50 negotiations and the ‘divorce bill’ begin to materialise throughout the coming year. Decisions in the months ahead will shape the future of the UK economy for many years to come.

by Professor Joe Nellis, Cranfield School of Management

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