• Consumer spending will continue to drive GDP growth in 2016, but as inflation picks up and austerity bites, growth is expected to slow from 2017

  • MPC will find it difficult to raise interest rates before late 2016

  • Risks from world economy are real, but the UK’s traditional trading partners are performing well, providing a silver lining for exports

Local Channel Island households received good news during a presentation on the winter forecast delivered by the EY ITEM Club at the Pomme D’Or on Tuesday 19 January.

The EY ITEM Club’s senior economic advisor, Martin Beck, delivered the presentation and expanded on the themes raised by the forecast and their impacts on the Channel Island’s economy.

Low inflation, due to falling commodity prices, combined with the Chancellor’s decision to delay his changes to tax credits, will extend the good times for UK consumers into this year, according to the forecast.

The EY ITEM Club expects consumer spending to increase by 2.8% in 2016, which will help push GDP growth up to 2.6%, from last year’s downward revised 2.2%. However, as austerity bites harder and inflation picks up in 2017, they will bear down on consumer spending growth, which is forecast to slow to 2.1% in 2017 and 1.7% in 2018. This will cool the UK’s GDP growth rate to 2.3% and 2.2% respectively.

Inflation is forecast to average only 0.4% in the first quarter of 2016 and is not expected to reach the key 1% benchmark until the final quarter. According to the forecast, inflation is likely to remain below the MPC’s 2% target for a prolonged period, averaging 1.6% in 2017 and 1.8% in 2018.

The EY ITEM Club says that it will be difficult for the MPC to justify an increase in interest rates while inflation remains so low and does not expect the first rate rise until the autumn, at the earliest.

The consumer recovery…continued

Peter Spencer, chief economic advisor to the EY ITEM Club comments: “The UK consumer had a welcome holiday from inflation and austerity in 2015, and, until recently, this had look set to come to an end. However, the combination of further falls in commodity prices and the money that the Chancellor found behind the sofa for his Autumn Statement ‘giveaways’, mean that this holiday will be extended into this year.

“But every holiday must come to an end. Inflation will start to pick up towards the end of 2016, while the impact of the government’s welfare savings will increasingly be felt. This will eat into spending power and cause consumer spending growth to slow.”

Mark Gregory, EY’s Chief Economist adds: “The consumer led recovery will continue this year, but UK businesses have to start preparing for life after 2016. With growth slowing and the supply of cheap labour coming to an end, businesses should be actively considering how to use capital investment to reshape their business models and drive productivity improvements.”

Housing market to remain buoyant

According to the EY ITEM Club, the housing market will remain buoyant in 2016. House prices are expected to increase by 6.5% this year before easing back to 4.7% in 2017. Housing investment is also forecast to increase by 6.9% this year and 8.3% in 2017.

Peter Spencer adds: “The housing market ended 2015 on a high note and we expect it to remain very active in 2016, particularly in the first quarter as landlords anticipate the stamp duty increase in April. The UK’s fundamental imbalance between supply and demand should ensure that house prices continue to rise. However, the buy to let market is likely to slow following the increase in stamp duty and the phasing out of mortgage interest tax relief.”

UK’s traditional trading partners are performing better

According to the EY ITEM Club, UK exports should be supported by the fall in the pound against the dollar in 2016. The forecast shows exports increasing by 4% in 2016 and 4.8% in 2017.

Peter Spencer adds: “While growth in world trade remains disappointing, as a result of the slowdown in emerging markets, the UK is relatively well protected. Our traditional trading markets such as the EU and the US have performed better lately and should continue to do so. Along with a weaker pound this should see exports doing well this year.”

But external threats remain

However, Peter Spencer says that risks remain for the UK economy: “We may only be two weeks into the New Year, but we have already seen evidence of the mounting global risks. Heightened tensions in the Middle East provide a stark reminder of the fragile geo-political situation, while China’s stock market jitters offer a reminder of how hard it will be to rebalance that economy. We expect these risks to remain in check, but as the Chancellor warned us recently, there is much which could go wrong.”

Good Channel Island forecast

Mr Beck said: “Overall the forecast is good for the Channel Islands as households will benefit from cheaper oil and falling commodity prices, as well as a slow rate of inflation allowing wages to go further.

“Even the forecast’s observation that China is moving from a manufacturing-led economy to a service-led one is good news for the UK and the Channel Islands as both export many more services than goods; so China could be a powerful trading partner in the future.”

Martin Beck, EY ITEM Club’s senior economic advisor

Martin Beck, EY ITEM Club’s senior economic advisor