UK economy to contract 0.5% this year, but grow in 2013

The Diamond Jubilee reduced economic growth and cemented the UK's double-dip recession but growth will return next year, according to NIESR's latest report.

by Michael Northcott
Last Updated: 19 Aug 2013

The economic doom and gloom will continue until the end of 2012, if forecasters at the National Institute of Economic and Social Research (NIESR) have read their crystal ball rightly. It reckons that the economy will contract by a total 0.5% this year, and said that ‘the deterioration in the UK economy has been more pronounced than even we expected.’ Even NIESR, with their all-knowing wisdom? That must mean things are bad. The report points to the ‘Jubilee effect’ as a dampener on the economy (because of the extra bank holiday), but predicts a ‘corresponding boost’ in the third quarter. Retailers whose shop floors have been deserted during the Olympics may not have the same optimism…

But the report did also bring some good news: inflation will fall below the 2% government target by the end of 2012, the economy will grow by 1.3% next year. Unemployment will reach its peak of 8.6% in mid 2013. The Institute even reckons that growth will climb to 2.4% in 2014, and by 2016-2017, the government will have eradicated its budget deficit as planned. Hell, let’s go and stock up on party poppers now, then!

Actually, no. There are some serious uncertainties that could change these predictions. First, the eurozone is still a quagmire of toxic banks, near-bankrupt countries and arguing leaders. We have had several promises from Angela Merkel, François Hollande and the European Central Bank’s Mario Draghi over the last week, that they will do ‘whatever it takes’ to save the euro. The single currency is ‘irreversible’ don’t you know? But Merkel said only a couple of months ago that there is no ‘silver bullet’ solution, which suggests to us that things could still go belly-up. That risk means demand for British goods and services could remain subdued for a long time.

Second, our financial system is so intricately tied to this European mess that banks have pulled back on their lending to our SMEs. With small companies making up most of the British private sector, this lack of lending is a stranglehold that threatens to prevent a groundswell of productivity from the more entrepreneurial outfits. The government has introduced (today) the Funding for Lending Scheme, which gives banks access to cheap funds as long as they lend it freely. And it is also pumping another £50bn into the economy using the Bank of England’s quantitative easing facility. But the NIESR’s report reckons that a lot of this cash could simply mean ‘deadweight losses’ for the government as banks pocket the cash instead of injecting it into the real economy.

Still, let’s have a ‘glass half full’ moment and join NIESR in its optimism. Goodness knows we could all do with a year of economic growth and lower inflation. Bring on 2013!

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