It’s not EU, it’s me

UK economy - what's next?

In the face of a largely unexpected referendum outcome, the UK is now facing a prolonged period of heightened economic and political uncertainty. The pound has dropped, but has the penny dropped as well?

Economic forecasting is tricky at the best of times. In our central case, we expect the UK to experience a mild technical recession in the second half of this year. Under the current foggy circumstances, however, the range of outcomes is rather wide and highly dependent on a number of key assumptions and financial variables, particularly sterling.

In our central case, we expect the UK to experience a mild technical recession in the second half of this year. 

The weakness of the pound is likely to push up import prices and cause inflation to pick up more quickly. This, combined with some job cuts, could squeeze real incomes and cause consumption to grind to a halt. Additionally, the ‘confidence shock’ that results in uncertainty remaining elevated could hurt both hiring intentions and capital spending.

The Bank of England’s immediate policy response has focused on maintaining market functionality. In addition, further policy stimulus ought to counter a significant tightening of credit conditions.

 “As indicated in July’s BoE statement, we expect the BoE will make a more comprehensive assessment in August. In the coming months we expect interest rates to be cut by 50bps and further measures such as QE and credit easing to be announced.”

The longer-term outlook is even more unclear and depends on the type of relationship the UK has with the rest of the EU. We are currently expecting a relatively favourable deal to be struck, including free trade in services in exchange for minor limitations to movement of labour and less influence.

 

Chronic uncertainty on the process for withdrawing from the EU is undermining the confidence of potential foreign investors in UK assets. But there may be hope yet, as Theresa May’s public statements suggest that she will favour a later and softer withdrawal from the EU.

 

For a more detailed discussion, please refer to the original Macro Matters publication.

 

 
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