Saturday 07 August 2021 9:30 am | Updated: Friday 06 August 2021 4:30 pm

Weekend Read: We may be about to find out what shape the recovery takes

Companies will not hire staff amid spiralling inflation and weaker demand

Since the first cases of Covid-19 began to disrupt the global economy, economists have not been shy of predictions.

V-shaped, L-shaped, even hockey-stick recoveries have all been on the table.

We may be about to find out who was right. While output growth and economic activity are still historically strong, in developed economies, those indicators are most definitely slowing.

The economic rebound from the Covid crisis has taken off since around mid-April when restrictions started to ease.

The rapid rollout of vaccines in developed countries has propelled consumer spending forward. Inoculations have allowed policymakers to lift restrictions on firms that rely on social and face-to-face interaction to generate income, namely, pubs, bars, restaurants and non-food stores.

UK retail sales in June were 9.5 per cent above their pre-pandemic levels in February 2020.

Demand is likely to run hot in the long run as households continue to draw down from savings amassed during Covid-induced lockdowns. Expenditures were slashed as the normal functioning of the economy was upended, resulting in many households setting aside their excess income.

Yael Selfin, chief economist at KPMG UK, thinks the consumption boom still has legs: “Although we expect a significant portion of [these savings] to be invested and spent over a long period of time, spending should also benefit in the short term.”

However, consumption in rich economies may be running out of steam. Latest data from IHS Markit on the US services industry shows new business cooled in July, prompting the firm’s chief business economist, Chris Williamson, to declare that demand may have “peaked.”

Similar slowdowns have been recorded in the UK. The UK services industry registered its lowest activity reading since March last month, while output in the construction industry was the lowest since February.

Spending is likely trending toward pre-Covid patterns due to the flood of pent-up demand turning into more of a stream. As a result, economic activity in rich economies is starting to cool following the initial Covid unlocking.

Shortages are hitting output

There are some emerging signs indicating businesses are struggling to scale production to cope with high demand amid severe shortages of key inputs.

Buckling supply chains are the root cause for widespread scarcity of raw materials and other inputs. This has mainly be triggered by ongoing Covid prevention measures – especially in Asia – reducing productivity in the logistics sector, meaning firms are either having to wait longer to secure inputs or pay through the nose to hold off competitors.

As a result, companies that undertake large scale construction projects are more susceptible to being forced to delay or even scrap activity until supply comes back online.

Experts are slightly more sanguine though.

Thomas Pugh, UK economist at RSM, thinks: “international good shortages should ease over the next year.”

Data from KPMG and the Recruitment and Employment Confederation shows candidate availability dropped at the second fastest rate in the survey’s history.

Companies are strengthening incentives in response to these labour shortages – starting salaries rose at a record rate in the UK in July.

Labour shortages are a bit more complicated. Some workers are likely reluctant to return to jobs from furlough due to fears their role may not be viable in the long term, while others could be holding out for a better offer from another employer.

Lingering concerns about contracting a deadlier strain of Covid are also deterring people from working in the leisure and hospitality sector due to the high levels of social contact that is required on the job.

However, “as the economy continues to recover easier the number of inactive people should start to fall (it’s currently 750,000 above its pre-crisis level), which will help to ease job shortages in some sectors,” Pugh added.

Firms won’t hire amid high inflation and weaker demand

Shortages are putting upward pressure on prices, which poses are real dilemma for companies: they need to balance protecting their margins without repelling consumers from buying their products due to higher prices.

However, people seem to be swallowing higher costs without much resistance.

“The anecdotal evidence that we have seen so far points at businesses passing on additional costs to costumers,” Selfin highlighted.

The biggest risk to the economic recovery is if consumers stop being willing to do this. Firms will have to either absorb higher production costs and lower profits, cease activity until input inflation eases or exit the market altogether.

That final possible outcome is exactly what policymakers in developed economies are keen to avoid as it will produce economic scaring through persistently high unemployment and slow productivity growth.

The governor of the Bank of England, Andrew Bailey, urged this week that getting people back into work may help ease shortages. But, companies will not hire staff amid spiralling inflation and weaker demand.

Outlook for growth is strong

The outlook for growth is still strong, experts have urged, and sectors such as accommodation and food services are predicted to drag developed economies’ GDP figures over the threshold of their pre-Covid size.

The UK will publish latest output figures this coming Thursday. All eyes will be on whether they buck the trend of recent data and indicate the economy is still on the right path.