The failure of the Chinese economy to recover promptly from the measures put in place to contain the coronavirus means that world demand growth will be softer than we had anticipated this year, but probably a bit stronger next year. As a result, we have downgraded our 2020 UK GDP growth forecast from 1.0% to 0.8% and upgraded our 2021 forecast from 1.8% to 2.0%. A widespread outbreak in Europe, the US, and the UK remains a risk to our forecast.
- The failure of the Chinese economy to recover promptly from the measures put in place to contain the coronavirus means that world demand growth will be softer than we had anticipated this year, but probably a bit stronger next year. As a result, we have downgraded our 2020 UK GDP growth forecast from 1.0% to 0.8% and upgraded our 2021 forecast from 1.8% to 2.0%. A widespread outbreak in Europe, the US, and the UK remains a risk to our forecast.
- We first wrote about the impact of the coronavirus outbreak on the 1st February, when we suspected the hit to the UK economy would be modest. (See here.) That’s still the case, although the impact now looks like it will be larger than we first anticipated for three reasons.
- First, the shock to world demand looks like it will be bigger than we had expected. The spread of the virus in China has been brought under control, but the economy is struggling to reboot. (See here.) As a result, we suspect that annual growth in China will be 3.0% this year, down from our pre-coronavirus forecast of 5.0%, and that other economies in Asia will also be hit. This lowers our forecast for global GDP growth in 2020 from 2.9% to 2.5%. (See Chart 1 and here.) Based on how shocks to global output have affected the UK in the past, the Bank of England’s model suggests that this will reduce UK GDP growth by around 0.1 percentage point (ppt) this year.
- Second, the supply shock from the acute disruption to China’s economy is also likely to cause some disruption to UK activity. China is the third largest supplier of intermediate products to the UK and anecdotal evidence and the jump in the suppliers’ delivery time balance in the manufacturing PMI in February suggest a shortage of components will restrain output. (See Chart 2.) Because of this, we have taken a further 0.1ppt off UK GDP growth in 2020 leaving it at 0.8%, down from 1.0% previously. However, as we think these shocks to demand and supply will prove temporary, global and UK growth should rebound in 2021. We have raised our 2021 forecast for UK GDP growth from 1.8% to 2.0%.
- The weaker global outlook increases the chances that the MPC cuts interest rates from 0.75% to 0.50% as the market expects. But we think that the strength of the post-election survey indicators and an impending fiscal stimulus will probably mean the MPC keeps its powder dry and keeps rates on hold.
- Third, as illustrated by the 8% fall in the FTSE 100 since the weekend when numerous new cases were discovered in Europe, a significant outbreak in Europe and the UK is a growing risk. UK government policy documents on influenza pandemics suggest the UK response would be less draconian than that in China and Italy. Regardless, an outbreak here could trigger business shutdowns and a hit to demand as people avoid public places and stop spending. This downside risk to our forecast would force the MPC to cut interest rates to 0.5% if it crystallised, and the government may also boost spending.
- Overall, the knock to global demand from the coronavirus will mean UK GDP growth is a bit slower this year and a bit faster next year. We doubt this will prompt the MPC to cut interest rates. For that to happen, the spread of the virus in Europe, the US, and the UK would have to escalate significantly.
Chart 1: UK-Weighted World GDP (% y/y)
Chart 2: Manufacturing Suppliers’ Delivery Times (Bal.)
Sources: Refinitiv, Capital Economics
Source: IHS Markit
Andrew Wishart, UK Economist, +44 20 7808 4062, firstname.lastname@example.org