UK in recession but depression unlikely, say economists

THE UK economy is already in recession and is destined to retract further, according to the latest Ernst & Young ITEM Club forecast.

Although the economists club believes that the “prompt and co-ordinated” response of governments worldwide has put pay to any talk of depression it urges the UK to face up to the fact that recession is already here.

According to its forecast the economy will contract for three further quarters before bottoming out in the second half of next year with a weak recovery anticipated for 2010.

GDP will fall by 1% next year – the first year of negative growth since 1992 – and will grow by only 1% in 2010.

Peter Spencer, chief economist to ITEM and professor of economics and finance at York University, said that although Gordon Brown had won plaudits for stopping the systemic meltdown of the banking system over the last few days the economy had been seriously weakened by recent dramatic events.

“The effects of the credit crisis are spreading out from the financial and housing sectors and impacting every part of our domestic economy,” he said.

“Even if the equity markets stabilise and we begin to see capital flowing around the international banking system again we are still looking at a domestic and global economy that will be in recession for the next 12 months.”

ITEM also forecasts that corporate profitability will continue to hurt triggering widespread reductions in investment and employment.

It said that business investment was already subsiding and will fall back by 5% next year. 

It also expects employment to take a significant hit from the fallout from the credit crunch as employers respond to cost pressures.

So far, the big redundancies have been confined to the finance and housing industries, but ITEM now expects these to become more widespread as the credit crunch seeps into the wider economy with claimant count unemployment doubling from 2 1/2% at the end of last year to 5% by the end of 2010 (reaching 7.8% on the Labour Force Survey).

And it’s a similarly gloomy picture for the housing market with ITEM predicting house prices to fall by 14% by the end of the year and a further 10% in 2009 before thawing from a “deep freeze” in 2010.

A weak labour market will maintain the squeeze on household budgets.

However, despite a shrinking economy, unemployment, and a fall in investment and household incomes ITEM believes there is one bright spot in its predictions – that inflation will continue to fall thereby enabling the Monetary Policy Committee (MPC) to cut interest rates “aggresively”.

Professor Spencer said:”Inflation is now close to its peak. Oil prices have practically halved in value since their peak three months ago and a slowing economy is easing inflationary pressures.

“With inflation set to start tumbling by the end of the year, the Bank now has room for further cuts as early as next month. We see base rate falling to 3% next year.”

He added: “With plunging interest rates, falling inflation, a fundamentally strong economy and some sort of stability in the banking system it should be a relatively short and shallow downturn.”

For up-to-the-minute thoughts, debate and feedback on ITEM’s forecast and the latest political moves to help businesses survive the credit crisis visit TheBusinessDesk’s forum.