Amid a recession and a cost of living crisis, there are still reasons to be cheerful on the economy
A recession and a cost of living crisis will dominate the headlines, but it’s not all bad news for the UK economy, writes Morning Wire economics correspondent Jack Barnett
I’m wondering if I’ll be out of the job this year.
Covering economics in 2022 was a wild ride. Inflation returned with a vengeance. Interest rates returned to their financial crisis levels. Botched economic policy handed Liz Truss the unwanted title of shortest serving prime minister ever.
It’s been tiring, but there hasn’t been a shortage of things to write about.
That might all be coming to an end. There may even be reasons to be cheerful in 2023.
Inflation – and this is going out on a limb and may come back to bite me – has passed its peak.
October’s 11.1 per cent reading likely marked the worst of the recent price surge. The rate dropped to 10.7 per cent in November.
What we’re now headed into is a drawn out period where inflation stays elevated, but gradually falls.
The rate will still be around three per cent by the end of 2023, above the Bank of England’s two per cent target.
There are a few factors driving the drop, some good, some bad.
Energy prices have fallen in response to European countries replacing Russian supplies with imports of liquified natural gas. The mad scramble for gas supplies from alternative producers in the immediate aftermath of Putin’s invasion has cooled off.
Those price reductions have fed through to the UK energy market, meaning the massive jumps in Ofgem’s energy price cap should be a thing of the past.
Higher fossil fuel prices should boost renewables production, steering business activity toward less carbon intensive and eventually cheaper energy inputs.
Nonetheless, gas prices still remain above their long term trend. The rate of increase in energy bills will drop, but the average price level has shifted upwards.
Secondly, a record hit to real incomes is set to spark a spending slow down. Businesses are responding to higher costs by reining in production. As a result, demand is falling out of the UK economy, which will naturally push prices lower.
Is a recession the cure?
When experts say we need a recession to push inflation lower, that’s what they mean.
Turning to the recession itself. It’s certainly not going to be anywhere as deep as the one that ruined households and businesses after the 2008 financial crisis, eventually knocking more than six per cent off UK GDP (peak-to-trough).
Instead, what the country is facing is a slow burning squeeze lasting anywhere between one and two years.
Latest forecasts from consultancy KPMG reckon the cumulative hit will be around 1.9 per cent of GDP, making it smaller than the slump in the early 1990s.
Not that there won’t be casualties amidst the recession. Real incomes will absorb the biggest knock. The Office for Budget Responsibility reckons we’re headed for a 7.1 per cent fall in living standards over the next two years, the largest fall ever.
In fact, spending power won’t recover to 2008 levels until 2027, according to the Resolution Foundation.
House prices are definitely coming down this year in response to tighter monetary policy. That will open a (small) route to homeownership for younger people once mortgage rates drop after the Bank of England, almost certainly, cuts interest rates in 2024.
The likelihood that a wage/price spiral is building in the UK economy is slim. Wage growth trailed inflation for pretty much the whole of last year, despite the Office for National Statistics’s monthly pay figures over shooting expectations 10 out of the last 12 installments.
2022 was certainly not a return to the 1970s. The number of working days lost to strike action in 1979 was nearly 30m. Last year, we likely lost around 2m.
Listen, this year is probably going to be very tough for lots of people. Saying otherwise wouldn’t be telling the truth.
But, there are a few bright spots to remember when reading headlines warning of the longest recession in a century.