Economic forecasts reveal high degree of uncertainty

Worries about a ‘double dip’ recession in the UK have faded in recent weeks. But recent forecasts reveal how much uncertainty there is about the economic outlook right now.

Worries about a ‘double dip’ recession in the UK have faded in recent weeks thanks to strong output data for 2010 and a series of forecasts, from the Bank of England, the OECD, and the Office for Budget Responsibility (OBR) among others, that show continued growth in 2011.

Real GDP growth (%)

2010 2011
Bank of England* 1.8 2.4
OECD 1.8 1.7
Office for Budget Responsibility 1.8 2.1

* Median forecast

These forecasts also reveal how much uncertainty there is about the economic outlook right now. The Bank of England expects the economy to be reasonably strong in 2011, while the OECD forecasts a significant slowdown in output growth during the year (the OBR is somewhere in the middle). This is even more apparent from the three organisations’ forecasts of quarterly growth, which show, for example, that the OECD thinks growth will slow from 2.9 per cent at the end of 2010 to 1.3 per cent at the end of 2011, while the Bank expects it to remain as high as 2.4 per cent.

Real GDP growth (annual, %)

2010Q3 2010Q4 2011Q1 2011Q2 2011Q3 2011Q4
Bank of England 2.8 3.0 2.8 2.3 2.3 2.4
OECD 2.8 2.9 2.6 1.7 1.3 1.3
OBR 2.8 2.9 2.7 2.0 1.8 2.0

Slower growth in 2011 would not be surprising. While activity in the manufacturing sector appears to go from strength to strength thanks to bouyant overseas demand (the latest optimistic comments come from the CBI and the Engineering Employers Federation), the outlook for domestic spending, which is more important for the economy, is less favourable:

– wage increases continue to average around 2 per cent at a time when inflation is running at 3.2 or 4.5 per cent, depending on the measure used;

– unemployment remains over 800,000 higher than it was at the start of the recession;

– there are over 1 million people working part-time involuntarily; and

– in 2011, households will have to cope with an increase in the standard rate of VAT to 20 per cent, higher national insurance contributions, and the effects of substantial cuts in public spending.

Still, even the OECD forecast is some way from a ‘double dip’ and there are probably only grounds for concern if the economy has a ‘stall speed’.

What do economists mean when they talk of an economy having a ‘stall speed’? The underlying idea is that household and business confidence are determined, in part, by news about the economy, particular when things are getting worse or better. Thus, if growth slows, businesses become more reluctant to hire extra workers and implement investment plans, and if house prices fall and unemployment rises, households are less likely to increase their spending and more likely to make some precautionary savings. In practical terms, what this might mean is that if economic growth slows from close to 3 per cent to less than 1½ per cent, it is more likely to fall further than it is to revive.

Of course, economies are not engines, and the idea of a ‘stall speed’ will seem fanciful to some. However, on the ten occasions in the last 55 years when the UK economy has slowed to 1½ per cent growth or less, it has dropped into a recession (defined as negative annual real GDP growth) seven times. That is a ratio high enough to take note of.

Even so, I do not think a ‘double dip’ is the most likely outcome. But, if as 2011 progresses the OECD forecast turns out to be more accurate than the Bank of England and OBR forecasts, then it would be wrong to dismiss the possibility altogether.

3 Responses to “Economic forecasts reveal high degree of uncertainty”

  1. John Turner

    RT @leftfootfwd: Economic forecasts reveal high degree of uncertainty, reports @ippr's Tony Dolphin //bit.ly/hm53c4

  2. anyleftiwonder

    In other words nobody knows.

  3. Mr. Sensible

    Anyleftiwonder that just shows what a risk the government is taking.

    I don’t think we’ll go back in to recession, however they’re now forecasting slower growth.

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