Growth in the UK economy will be weaker than expected, real wages will fall by more than anticipated and inflation will be higher than forecast, the Bank of England has warned.
In a downbeat outlook in its latest quarterly Inflation Report, the Bank said GDP growth was likely to be 1.7 per cent this year, down from estimates of 1.9 per cent made in May and 2 per cent in February. The lower forecasts put its outlook in line with those of other organisations such as the International Monetary Fund. The central bank also made a small downgrade for 2018 from 1.7 per cent to 1.6 per cent but kept 2019 the same at 1.8 per cent.
The downgrades are largely due to gloomier expectations for consumer spending, which is now forecast to rise by a mere 0.75 per cent in 2018, as well as weak housing investment. Growth is expected to pick up in 2018 as net trade and business investment firm up due to strong global growth supported by the depreciation of sterling.
Mark Carney, governor of the Bank, said: “Households looked through Brexit-related uncertainties initially. But more recently, as the consequences of sterling’s fall have shown up in the shops and squeezed their real incomes, they have cut back on spending, slowing the economy.”
Kallum Pickering, an economist at Berenberg, said: “Presumably the reduced forecast for potential growth is driven by the Bank’s assumptions about Brexit, which will weaken the UK’s trading arrangements with the EU, its biggest market.”
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The Bank now expects the level of business investment in 2020 to be 20 per cent below the level it was forecasting just before the referendum. “Since the referendum, [businesses] have invested much less aggressively than usual in response to an otherwise very favourable environment,” Mr Carney said.
Wages are a key measure that the Bank closely monitors as a gauge for when to start normalising monetary policy after eight years on emergency settings, yet its outlook for this also remained pessimistic.
For this current year, growth in earnings is expected to be 2 per cent, the same estimate as in May after very sluggish wage growth so far. Wage growth for 2018 has been downgraded slightly to 3 per cent, from 3.5 per cent forecast in May and to 3.25 per cent in 2019, down from 3.75 per cent.
Victoria Clarke, an economist at Investec, said this lower wage forecast may give the monetary policy committee more time to decide what to do about raising interest rates.
The Bank left its inflation forecast largely unaltered from May and expects it to overshoot its official target of 2 per cent for the next three years. Inflation is expected to average 2.7 per cent in 2017, up from its forecast of 2.6 per cent. The Bank expects inflation to reach a peak of 3 per cent around October before gradually falling to 2.6 per cent in 2018 and 2.2 per cent in 2019 and 2020.
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Roland Rudd, chairman of the pro-EU Open Britain group, said that the Inflation Report showed the damage a hard Brexit is likely to cause.
Although GDP growth is expected to be weaker, the unemployment rate has fallen further than the Bank expected, dropping to a 40-year low of 4.5 per cent, and it now expects unemployment to fall to 4.4 per cent by the end of third quarter of this year. By the autumn of 2020 the unemployment rate is expected to be broadly where it is now at 4.4 per cent, in comparison with the Bank’s estimate 12 months ago when unemployment was expected to pick up to 5.6 per cent by mid-2018.
Funding scheme for lenders wins £15bn boost
The Bank of England is to increase the pot of money available for banks to borrow from at low interest rates under a funding scheme that it launched after the Brexit vote because of its surprising success.
In August last year the Bank launched the Term Funding Scheme to ensure its cut in interest rates to 0.25 per cent was passed on to consumers.
The £100 billion fund was set up to allow lenders to secure funds at the same cost as the Bank’s interest rate of 0.25 per cent. This was in constrast to lenders’ funding costs of at least 1 per cent and so was hugely successful.
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To get the full benefit, banks had to not reduce their net lending in an attempt by the central bank to make sure extra money was being passed on through the financial system rather than just boosting margins. If lenders restricted credit, the cost of the TFS rose to as much as 0.5 per cent. Lenders had to pledge collateral at the Bank and accept a lower amount of funds than the value of the assets pledged to access the scheme. Yet the Bank has disclosed that £80 billion has been drawn by banks and it believes that the full £100 billion will have run out before the closing date of next February.
Mark Carney, the governor, was granted permission by the chancellor to underwrite another £15 billion for the scheme. Despite boosting the amount of cheap money available, the monetary policy committee does not believe it is necessary to extend the fund’s life beyond February.