While the slight easing in social distancing rules in May helped industrial confidence to recover a little, the headline UK Economic Sentiment Indicator fell further in May as services and retail firms remain pessimistic on the chances of a sharp pick up in activity.
Weak animal spirits may hold back the recovery
- While the slight easing in social distancing rules in May helped industrial confidence to recover a little, the headline UK Economic Sentiment Indicator (ESI) fell further in May as services and retail firms remain pessimistic on the chances of a sharp pick up in activity.
- The slight fall in the ESI from 62.4 to 61.7 leaves the indicator consistent with GDP falling by around 5% y/y. (See Chart 1.) GDP fell 5.7% in March alone, when the lockdown was only in place for a week, so like other surveys, the ESI is probably underestimating the fall in output in April and May. We suspect GDP has been reduced by about a quarter from peak-to-trough because of the lockdown.
- The more interesting aspect of the survey is what it tells us about firms’ and households’ expectations, which may be an early guide to whether consumer and business caution in the aftermath of the epidemic will hold back the recovery. Unsurprisingly, firms reported very weak activity over the past few months. (See Chart 2.) But concerningly, there has also been little improvement in the balance of firms expecting activity to pick up. One crumb of comfort is that households are relaxed about the outlook for their personal finances.
- But that may not last. Many employees are probably already worried about their jobs given that both households and firms expect employment to fall and unemployment to rise in the months ahead. (See Chart 3.) Indeed, we think the unemployment rate could rise to almost 9%, albeit perhaps not until the generosity of the furlough scheme is reduced in August. (See here.)
- Finally, we expected the saving ratio to shoot up during the crisis as most people’s ability to spend was reduced by more than their income. But since the coronavirus crisis began households have reported that they are saving less, while some are running into debt. (See Chart 4.) If so, there may not be much pent up demand, which would be another reason to think that the economy will only recover slowly.
Chart 1: UK ESI & GDP
Chart 2: Current & Expected Demand
Chart 3: Employment Expectations
Chart 4: Survey of Households Financial Situation & Household Saving Rate
Sources: Refinitiv, European Commission, Capital Economics
Andrew Wishart, UK Economist, +44 7427 682411, email@example.com