The Saturday Economist – The difficult economic conditions we still face ..

The Saturday Economist 23rd March

Economics news – the difficult economic circumstances we still face

“I am going to level with the people about the difficult economic circumstances we still face and the hard decisions required to deal with them” said the Chancellor this week, in the budget statement delivered on Wednesday. The statement clearly spooked Fitch, the ratings agency who responded by putting the UK economy on negative watch, the first step to another credit rating downgrade. Fitch said Britain’s lack of growth and growing debt mountain meant there was a “heightened probability of a downgrade in the near term”.

The Chancellor had done his best on borrowing. The Post office Pension fund transfer, mugging the old lady for the gilt coupon dividends, pushing departmental spending into the next fiscal year and even hanging on to the cheque for the World bank for a few months. Anything to avoid the fact that underlying borrowing was up from last year and the national debt is set to hit £1.5 trillion within three years.

Anything but a coherent economic strategy, again missing from the Treasury statement mid week. OK there were some good things to come, the £10,000 basic rate allowance, the reduction in corporation tax to 20%, the fuel duty cancellation and the modest increase in infrastructure spending of £3 billion per annum.

But the spending is offset by the magic asterisk of cuts yet to be identified in departmental spending. Further departmental cuts will be painful especially in local government but achieve little if education, health, debt and welfare spending continue to rise (and they will).

In other measures, the £2000 National Insurance allowance looks like a knee jerk populist measure without precedent and economics foundation. A penny off the pint to save the pub, is yet another triumph of alliteration over policy. The housing measures, off balance sheet government borrowing, enabling house buyers to secure 95% mortgages, will require much closer evaluation. The bold move may yet morph into a scam by which the rich can buy second hand caravans stuffed with cold pasties. Do we really want the market to return to high loan values? if so relax regulation and let the free market get on with it.

This is not plan A for austerity but Plan A for an aspiration to be re-elected.  Napoleon would ask of his generals is he lucky, the better question does he have a plan. The Chancellor is running out of luck and without a plan.

Inflation CPI
CPI inflation was up to 2.8% in the figures released on Tuesday. Service sector inflation increased to 3.8%. Bad news for the RPI measure – no longer a national statistic. Years of faithful service but no longer fit for purpose, RPI receives a statistical dishonorable discharge and joins TPI and M3 money, in the ONS graveyard.

Inflation PPI
Producer prices were up by not much, output prices increased to 2.3% as input prices increased to 3.2%. We will not see the 2% inflation target hit this year as indeed it has been off the radar for the past forty months.

So what’s all the fuss about revising the remit for the MPC with intermediate thresholds and explicit forward guidance. The MPC cannot hit the immediate target and offer any explicit current guidance as to the real reasons why!

Retail Sales
Good news on retail sales in February as sales volumes increased to 2.6% year on year after January’s disappointing news.

Mixed news on employment as the claimant count fell by just 1.5 thousand. Not so much, heading in the right direction, as unsure which way to go.

Growth in the year
The OBR halved the forecast for growth this year from 1.2% to 0.6%. Clearly the latest news on construction and manufacturing weighed heavily on the judgement, despite service sector growth.

On balance the budget is expansionary and will not impede growth this year. We still believe the economy is in recovery but at a much slower rate than trend. It will be a slow year but no triple dip.

What’s happened to Sterling
Chaos in Cyprus pushed sterling higher this week up from 1.1550 to 1.1728 against the euro and up against the dollar to 1.5227 from 1.5111. The dollar closed down against the euro at 1.2988 from 1.3075.

Oil Price Brent Crude closed down $107.66 from $109.82. No threat to inflation at present levels but a warning of a slow down in world trade conditions perhaps.

Markets, were mixed this week. The Dow closed at 14,512 from 14,514 but the FTSE closed down at 6,393 from 6,489. It will take a big move next week for the FTSE to test the 6,500 level as we had hoped.

UK Ten year gilt yields fell to 1.87 from 1.95 and US gilts closed at 1.93 from 1.99. With £150 billion of gilts to be issued this year, the markets seem pretty relaxed, for now.

That’s all for this week, don’t miss The Sunday Times and Croissants out tomorrow. 
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