UK to lag behind in the global recovery - Capital Economics
UK Economics

UK to lag behind in the global recovery

UK Economics Weekly
Written by Ruth Gregory

This week marked a return to the generally gloomy news on the pace of the recovery, reinforcing our concerns that the UK recovery will be slower than in some other major economies. This has less to do with the policy support put in place by the government, which has been larger than in most other countries, and more to do with the larger share of the UK’s GDP coming from sectors like restaurants and entertainment and the uncertainty caused by Brexit. That’s why we think that by the end of the year policymakers will still be focusing on more, rather than less, stimulus.

Not so “V”

After the temporary respite brought by May’s strong retail sales figures, this week marked a return to the generally gloomy news on the pace of the recovery. Activity struggled to recover meaningfully in most sectors of the economy in May, with GDP rising by just 1.8% m/m. (See here.)

Admittedly, the retail sector’s strength has been impressive, with another big rise in June likely to mean the sector has recouped about 95% of its fall. (See our Data Preview on page 2.) Our Covid-19 UK Recovery Tracker has continued to improve in July. (See here.) And the recent cut in the VAT rate for the hospitality/tourism sectors and the Chancellor’s Eat Out to Help Out restaurant discount scheme will probably mean that inflation falls below zero in the coming months, lifting demand. (See here & here.)

While retail sales are doing well, part of that strength reflects the fact that retail spending can be done online. And part is because spending is being substituted away from elsewhere. Indeed, non-retail consumer spending has fared much worse. So the sector is not an accurate guide to the wider recovery.

Meanwhile, tougher times lie ahead. Households will have some fiscal support pulled out from under their feet as the job furlough scheme is wound down from August and ends on 31st October. So we do not think the recent resilience of the labour market will last. (See here.) Indeed, we expect a second wave of job losses to take the unemployment rate from 3.9% in May to 7.0% by mid-2021. (See here.)

Bottom of the pile

Of course, the UK has not been alone in experiencing a subdued recovery so far. True, the incoming data suggest China’s recovery is about as V-shaped as possible. (See here.) But that partly reflects the state’s ability to instruct many firms to resume business as well as its comparatively short lockdown. Elsewhere, the recovery has not been nearly as rapid. (See here.) Even so, the UK’s recent poor performance only reinforces our view that the UK will lag behind. (See Chart 1.)

Chart 1: Real GDP (Index Q4 2019 = 100)

Sources: Refinitiv, Capital Economics

Admittedly, the UK has been more proactive on the policy front. The total fiscal cost of the Covid support is estimated to have reached £192.3bn (8.7% of 2019 GDP), second only to Canada. (See Chart 2.)

Chart 2: Direct Fiscal Support (As a % of 2019 GDP)

Sources: Refinitiv, National Governments, Capital Economics

But the UK has the relative disadvantage that a larger share of its GDP comes from sectors like leisure that are restrained the most by social distancing. (See here.) And Brexit will prove a further hurdle in the road to recovery. (See here.) That is why, despite the OBR’s warnings that the public finances are on an unsustainable path, we think that policymakers will have to loosen policy further this year. (See here.)

The week ahead

June’s rise in retail sales (due on Friday) is likely to be just as impressive as May’s. Meanwhile, we will get a clearer idea of the MPC’s current thinking from Monday’s Treasury Committee hearing and a speech by MPC member Jonathan Haskel on Thursday.


Data Previews

Public Finances (Jun.) Tue. 21st Jul.

Forecasts

Time (BST)

Previous

Consensus

Capital Economics

PSNB ex. Banking Groups

07.00

+£55.2bn

+£51.5bn

+£35.0bn

Central Gov. Net Cash Requirement

07.00

+£62.7bn

+£52.0bn

Cash outflow set to ease

June’s public finances data will probably show that government borrowing continued to rise rapidly. However, the rebound in the economy and the drop off in government spending on income support schemes meant that borrowing probably rose at a slower pace than in March and April.

Tax receipts may have risen in June, to around £50.0bn from £40.7bn in May, as spending in the economy rose due to the lockdown easing and some people returning to work. Lower payments on income support schemes and a reduction in departmental spending may have meant that government expenditure fell, from £88.0bn in May to about £84.0bn in June. As such, the government probably borrowed a further £35.0bn in June, less than the £55.2bn in May 2020 but still huge when compared to the £5.2bn in June 2019.

The central government’s net cash requirement may have been £52.0bn, down from £62.7bn in May.

Overall, the annual government budget deficit is still rising at an incredible pace. We forecast it will reach £380bn (19.4% of GDP) in 2020/21. (See Chart 3.)

Chart 3: Public Sector Net Borrowing (% of GDP)

Sources: OBR, Capital Economics

Retail Sales (Jun.) Fri. 24th Jul.

Forecasts

Time (BST)

Previous

Consensus

Capital Economics

Retail Sales Volumes (Including Petrol)

07.00

+12.0%(-13.1%)

+7.4%(-7.4%)

+10.0%(-5.1%)

June’s rise likely to be impressive

The release of pent-up demand after non-essential stores reopened in mid-June suggests that the rise in retail sales in June will be just as impressive as the rebound in May. But since consumers had little else to spend their money on, we doubt that the figures provide a good guide to the wider recovery.

The retail sector has already recovered around half of the 23.7% of output lost since January. And the timelier indicators point to another big rise in June. The KPMG/BRC Retail Sales Monitor surged in June suggesting that sales were up by 8% y/y and 25% m/m. (See Chart 4.) However, this indicator proved too optimistic in May. Non-essential retailers were only open for the final two weeks of the month. And there were restrictions on the number of shoppers. Other indicators, such as Visa and Barclaycard card transaction data, are consistent with smaller, but still impressive, rises of 6.5% m/m and 10% m/m respectively. We have pencilled in a 10% m/m increase in June as the sector continues to benefit disproportionately from online spending and a substitution away from other forms of spending.

Chart 4: BRC & ONS Retail Sales Volumes (% y/y)

Sources: Refinitiv, Capital Economics

IHS Markit/CIPS Flash PMIs (Jul.) Fri. 24th Jul.

Forecasts

Time (BST)

Previous

Consensus

Capital Economics

Flash Composite PMI

09.30

47.7

51.0

50.0

Flash Manufacturing PMI

09.30

50.1

51.0

51.5

Flash Services PMI

09.30

47.1

50.5

49.5

Ongoing recovery to take composite PMI to 50

We expect the PMI to return to 50 for the first time since February in July. But that would not mean GDP has recovered to its pre-virus level.

Some commentators may herald the return of the composite PMI to 50.0 as a sign that the economy is back to normal. However, the survey is an indicator of the monthly change in activity rather than the level of GDP. So a reading of 50.0 should mean that GDP has stopped falling and is bumping along the bottom.

As it happens, the composite PMI hasn’t been very good at indicating the month-to-month changes in activity that it’s supposed to recently either. It was well below 50 in May and June when GDP started to recover. (See Chart 5.) That is probably because some respondents are answering the survey incorrectly and comparing activity to normal levels.

Nonetheless, in July the continued recovery suggested by the timely indicators we track (such as data on mobility, retail footfall and restaurant bookings) suggests the composite PMI may have reached 50.0. (See the real time indicator charts on our website.)

The services PMI, though, is likely to remain lower than the manufacturing PMI as social distancing continues to restrain the recovery in the sector. Also, manufacturing firms have been operating since mid-May and are benefiting from the global recovery from the coronavirus crisis.

Chart 5: IHS Markit/CIPS Composite PMI & GDP

Sources: IHS Markit, Refinitiv, Capital Economics


Economic Diary & Forecasts

Upcoming Events & Data Releases

Date

Country

Release/Indicator/Event

Time (BST)

Previous*

Consensus*

CE Forecasts*

UK Data Response

Mon 20th

UK

Rightmove House Prices (Jul)

(00.01)

UK

Haldane & Tenreyro testify to Treasury Comm.

(15.30)

Tue 21st

UK

PSNB ex. Banking Groups (Jun)

(07.00)

+£55.2bn

+£51.5bn

+£35.0bn

DR

UK

Central Gov. Net Cash Requirement (Jun)

(07.00)

+£62.7bn

+£52.0bn

DR

Wed 22nd

No Significant Data Released

Thu 23rd

UK

CBI Industrial Trends Survey (Jul)

(11.00)

-58

UK

MPC’s Haskel speaks about the recovery

(12.00)

UK

House of Commons rises for summer recess

UK

CE Webinar – Economies After Covid

(08.00/16.00)

Fri 24th

UK

GfK Consumer Confidence (Jul, Prov.)

(00.01)

-27.0

UK

Retail Sales Inc. Fuel (Jun)

(07.00)

+12.0%(-13.1%)

+7.4%(-7.4%)

+10.0%(-5.1%)

DR

UK

IHS Markit/CIPS Composite PMI (Jul, Flash)

(09.30)

47.7

51.0

50.0

DR

UK

IHS Markit/CIPS Manufacturing PMI (Jul, Flash)

(09.30)

50.1

51.0

51.5

DR

UK

IHS Markit/CIPS Services PMI (Jul, Flash)

(09.30)

47.1

50.5

49.5

DR

Selected future data releases and events

Wed 29th

UK

M4 Money Supply (Jun)

(09.30)

+2.0%(+11.9%)

Thu 30th

UK

UK Economic Sentiment Survey (Jul)

(10.00)

DR

Fri 31st

UK

GfK Consumer Confidence (Jul, Final)

(00.01)

*m/m(y/y) unless otherwise stated

Sources: Bloomberg, Capital Economics

Main Economic & Market Forecasts*

%q/q(%y/y) unless stated

Latest

Q1 2020

Q2 2020

Q3 2020

Q4 2020

2019

2020

2021

2022

GDP

-2.2(-1.7) (Q1)

-2.2(-1.7)

-21.5(-22.8)

+14.2(-12.3)

+5.2(-7.7)

(+1.5)

(-11.0)

(+9.5)

(+3.3)

CPI inflation

(+0.6) (June)

(+1.7)

(+0.6)

(-0.1)

(+0.2)

(+1.8)

(+0.6)

(+1.2)

(+1.3)

ILO unemployment rate (%)

3.9 (May)

3.9

4.1

5.5

6.4

3.8

5.0

6.7

5.5

Bank rate, end period (%)

0.10

0.10

0.10

0.10

0.10

0.75

0.10

0.10

0.10

10 yr gilt, end period (%)

0.15

0.35

0.25

0.25

0.25

0.82

0.25

0.25

0.25

$/£, end period

1.26

1.24

1.24

1.30

1.35

1.33

1.35

1.35

1.35

Euro/£, end period

1.10

1.14

1.11

1.12

1.13

1.18

1.13

1.13

1.13

Sources: Capital Economics, Refinitiv

* Assumes the UK and the EU agree a slim trade in goods deal by the end of the year, with the status quo for services and financial services maintained until a later date. (See here.)


Ruth Gregory, Senior UK Economist, +44 7747 466 451, ruth.gregory@capitaleconomics.com