The election resulted in the formation of a coalition govt but the feared collapse in sterling or the bond market under such a scenario did not take place.
The general election resulted in a hung parliament, followed by the formation of a coalition government but the feared collapse in sterling or the UK government bond market under such a scenario did not take place.
As some pointed out before the election, coalition governments are the norm in many large economies (including the US where the Administration and Congress are frequently controlled by different parties) and not a particular cause of concern for financial markets.
One of the new Government’s first actions was to announce a £6.2 billion package of public spending cuts, which will result in tens of thousands of jobs being lost in the public and private sectors. It has also set a date – 22 June – for an emergency budget that could contain tax increases which will further weaken demand in the economy. This comes at a time when official data suggest the economic recovery has yet to build up any momentum and retail sales – one of the key drivers of demand in economy – are barely increasing at all.
Meanwhile, inflation increased further to 3.7 per cent in April, well above its 2 per cent target rate. There is a risk that the Monetary Policy Committee will feel it has to scale back quantitative easing and increase interest rates in order to preserve its credibility. If so, the economy could face a simultaneous monetary and fiscal policy squeeze at a time when the recovery remains very fragile.
The possibility of a ‘double dip’ recession has not yet faded completely. The danger is that, if this happens, George Osborne will feel compelled by his earlier rhetoric to cut public spending even faster in order to meet his deficit target, so trapping the UK in a scenario of low/no growth.
The UK economy is recovering slowly from recession. Revised figures show the economy grew by 0.3 per cent in the first quarter of 2010. This follows growth of 0.4 per cent in the final quarter of 2009 and confirms that a slow economic recovery has commenced.
Too much should not be read into the apparent slowdown in growth between the final quarter of 2009 and the first quarter of 2010. This was largely due to the appalling weather in January and the increase in VAT at the beginning of this year (and, anyway, 0.1 percentage points is well within the margin of error of the GDP statistics).
Retail sales were up in April. The volume of retail sales increased by 0.3 per cent in April but the level of sales remains lower than it was throughout the whole of the second half of 2009. This is the result of weaker sales of petrol, due no doubt to sharply higher prices, food and household goods. Furthermore, a CBI survey suggests sales fell in May.
Households are struggling to increase their spending at a time when inflation is running well ahead of wage increases and this is one reason why the economic recovery has been so modest so far.
Employment is still contracting. The number of people employed in the UK fell by 76,000 between the final quarter of 2009 and the first quarter of 2010 and the employment rate fell to a 14-year low of 72.0 per cent. Some clue as to the level of underemployment in the economy is given by the 1.07 million people working part-time because they cannot find a full-time job – the highest figure since records began in 1992.
Unemployment data are confusing. According to the Labour Force Survey, the number of unemployed people increased by 53,000 between the final quarter of 2009 and the first quarter of 2010, and it now totals 2.51 million. But the claimant count – the number of people claiming Jobseeker’s Allowance – has fallen in five of the last six months. At 1.52 million in April it was 111,000 lower than its recent peak in October 2009.
Wage growth remains subdued. Official figures show that regular pay is only about 2 per cent higher than it was a year ago. Pay growth in the public sector (excluding financial services) has been running at around 3 per cent, while in the private sector it has been less than 1 per cent. That is about to reverse. Under the new Government, pay restraint in the public sector is sure to increase. Meanwhile, Income Data Services report a steady fall in the number of firms in the private sector that have pay freezes.
Price inflation remains well above its target rate. Mervyn King had to write a letter to the new Chancellor this month to explain why inflation – at 3.7 per cent in April – remains well above its 2 per cent target rate. He highlighted special factors: record petrol prices, January’s increase in VAT and the lingering effects of sterling’s decline in 2008.
But it is an uncomfortable fact that inflation has been persistently higher than the Bank of England – and most other forecasters – expected. Of course, any further increase in VAT would push inflation even higher, risking an increase in inflation expectations. Fig 3.
The coalition cut spending by £6.2 billion. The Liberal Democrat-Conservative coalition government went ahead with plans to announce £6.2 billion of spending cuts, despite government borrowing in 2009/10 turning out lower than expected (at £145 billion, compared to a budget forecast of £166 billion. It also set up an Office for Budget Responsibility to re-examine HM Treasury’s forecasts for the public finances and announced that it would hold a budget on 22 June.
The Monetary Policy Committee might face some tough choices. For now interest rates in the UK remain at 0.5 per cent and there are no plans to start to withdraw the £200 billion of quantitative easing put in place by the Bank of England. But, if inflation remains well above its target rate in coming months, the Monetary Policy Committee might find that it has to start tightening monetary policy in order to preserve its credibility. The OECD, for example, thinks interest rates will increase later this year and will rise to 3.5 per cent by the end of 2011.
Sterling is on the sidelines. There is a tendency, particularly in the media, to interpret every movement in sterling as a comment on the UK’s economic performance or the credibility of the government. However, there are times when sterling is simply buffeted by trends from overseas, and now is one of those times. Over the last month it has fallen by more than 5 per cent against the US dollar – but it has risen 2.5 per cent against the euro.
These moves have everything to do with worries about the crisis in Greece and its effect on the euro-zone and very little to do with UK economic or political developments. One myth has, though, been exploded in the last month – that a hung parliament in the UK would result in a sharp sell-offs in sterling and government bond prices. In fact, financial markets appear to have taken the general election result in their stride.
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8 Responses to “Economic update – June 2010”
Lily Ma
Economic update – June 2010 | Left Foot Forward: The election resulted in the formation of a coalition govt but th… http://bit.ly/9lH1Ii
Economic update – June 2010 « The best Labour blogs
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winston k moss
RT @leftfootfwd: Economic update – June 2010: http://bit.ly/bsRGtz – Hung parl has not resulted in economic collapse
tracy j
I’m worried about the economy going back into recession. Gordon Brown should never have had that election. The economic recovery was safe with him. He should have waited a year or two before going to the country. And yes, it would have involved a constitutional change, but these are real people losing real jobs.
John Lees
Yes I agree lets cancel democracy and borrow borrow borrow and spend spend spend – paying back is what other people have to do.