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We doubt that the economic news over the coming week will bring much festive cheer. After spiking in October, consumer price inflation is likely to have risen further in November, and consumer confidence is likely to have relapsed in December after a November jump. The public finances are unlikely to offer comfort and joy to the chancellor. It has to be hoped that the CBI’s distributive trades survey for December indicates retail sales are gaining momentum as the Christmas shopping period comes to a climax.
GDP in the third quarter
Friday sees the third estimate of GDP in the third quarter. The second estimate confirmed that GDP bounced back 1.0% quarter-on-quarter (q/q) in the third quarter although it was still down 0.1% year-on-year (y/y). This followed three quarters of q/q contraction in a 0.3–0.4% range.
We do not expect there to be a major revision to the third quarter GDP figures. The third quarter expansion of 1.0% q/q substantially outweighed the 0.4% q/q decline in GDP suffered in the second quarter, which suggested that the economy had seen underlying modest growth overall during the spring and summer after allowing for the various distortions that affected GDP in the second and third quarters. The GDP contraction of 0.4% q/q in the second quarter was clearly heavily influenced by the hit to activity coming from the extra day public holiday in June to celebrate the queen’s Diamond Jubilee and by very wet weather (which limited construction activity and retail sales). The Bank of England has estimated that the extra day public holiday could have knocked up to 0.5 percentage point off q/q GDP in the second quarter. So, GDP growth of 1.0% q/q in the third quarter was clearly boosted by the making up of some of the activity lost in the second quarter as well as by an overall positive impact from the Olympic and Paralympic Games (ticket sales alone added 0.2 percentage point to third-quarter GDP growth).
On the output side of the economy, GDP growth in the third quarter was led by the dominant services sector, while there was also a decent rebound in industrial production. Nevertheless, construction output continued to contract markedly.
On the expenditure side of the economy, consumer spending expanded 0.6% q/q in the third quarter, which was the best performance since the second quarter of 2010. There were also strong positive contributions from business investment and net trade. Government spending also rose, but there was a running down of inventories
Latest surveys and data have been largely disappointing, and it currently looks pretty likely the United Kingdom will suffer a renewed dip in GDP in the fourth quarter following the 1.0% q/q rebound in the third quarter. On the output side of the economy, industrial production appears headed for a sharp fall in the fourth quarter, while the services sector seems to be barely growing. However, there could be rare expansion in construction output. On the expenditure side, the trade deficit disappointingly widened markedly in October as exports fell. Further bad news saw retail sales volumes fall 0.8% month-on-month in October; and while hopes for consumer spending were then lifted by a marked rise in consumer confidence to an 18-month high in November and a robust Confederation of British Industry distributive trades’ survey, they were then hit anew by a muted British Retail Consortium survey for November.
We currently expect a 0.2% q/q fall in GDP in the fourth quarter, but much could yet depend on how much consumers spend over Christmas and how well the services sector does.
While any fourth-quarter GDP dip would likely be partly due to an unwinding of the Olympics boost that clearly helped the economy in the third quarter, there is significant concern that the weakness goes deeper than that and the UK is headed for a genuine “triple dip”.
We suspect that the economy will grow anew in the first quarter of 2013 after the likely dip in the fourth quarter of 2012, but we expect expansion to be modest overall and fitful in 2013. Fiscal austerity kicking in further, still difficult credit conditions particularly for smaller companies, muted global economic activity and continuing serious problems in the Eurozone are all likely to hamper growth for some time to come, while consumers will still face significant limitations to their spending ability. In such an uncertain and still difficult environment, firms are likely to continue to be cautious in investing, and it remains to be seen whether the “Funding for Lending Scheme” leads to a significant pick-up in credit to companies (especially smaller ones).
Consequently, we see UK GDP growth limited to 1.1% in 2013. Growth is expected to be the result of a modest increase in consumer spending, a gradual pick up in investment as the year progresses, and moderately improved exports helped by slightly better global growth in 2013 compared to 2012.
Consumer price inflation in October
Data out on Tuesday are expected to show that consumer price inflation edged up further to 2.8% in November after jumping to 2.7% in October from a 34-month low of 2.2% in September. Consumer price inflation was pushed up in October primarily by a near trebling in the maximum undergraduate university tuition fee (which added 0.32 percentage point to the annual inflation rate) and by higher food prices. Consumer price inflation had previously trended won to the September 2012 low of 2.2% from a three-year high of 5.2% in September 2011. A rise to 2.8% in November would take consumer price inflation further up from the Bank of England’s target rate of 2.0%.
Consumer price inflation is expected to have been pushed up further in November primarily by a rise in energy tariffs and also by higher food prices. Several utility providers are increasing their energy tariffs during the fourth quarter, and this started with an increase of 9% by SEE in October. In addition, food prices are likely to have risen further as a consequence of recent poor harvests overseas and very wet weather in the UK. The British Retail Consortium (BRC) has already released its shop price inflation for November which shows that the year-on-year increase in food prices rose to 4.6% in November from 4.0% in October and 3.1% in September.
However, the rise in consumer price inflation is expected to have been limited by lower petrol prices and possibly by significant discounting by some retailers. It is notable that the BRC reported that non-food shop prices were down 0.3% year-on-year in November having been flat year-on-year in October. November’s drop was reported to have been driven primarily by clothing and electrical goods. Consequently, we expect core consumer price inflation to have edged back to 2.5% in November after spiking to 2.6% in October from 2.1% in September and August.
It currently looks highly likely that consumer price inflation will hit 3.0% around the turn of the year as it continues to be pushed up in the near term by increasing energy tariffs (more utilities are raising prices in December and January) and elevated food prices.
The upside for consumer price inflation should be limited by modest underlying price pressures and, hopefully, generally softer oil prices. Underlying price pressures should be contained over the coming months by significant excess capacity, still muted economic activity, further moderate wage growth amid appreciable labour market slack, and a likely extended need for retailers to price as attractively as possible to persuade still worried consumers to spend.
Nevertheless, consumer price inflation is likely to stay close to 3.0% through the first half of 2013, as it is hindered by difficult base effects resulting from the marked overall retreat in inflation in the early months of 2012.
Consumer price inflation should head down markedly in the final months of 2013, particularly as the impact of the sharp drop in university tuition fees drops out in October. Specifically, we see consumer price inflation down to 2.2% by the end of 2013 and it could finally dip below 2.0% in 2014.
Minutes of December Bank of England MPC meeting
Wednesday sees the release of the minutes of the December meeting of the Bank of England's Monetary Policy Committee (MPC) when the committee announced no changes to monetary policy. Interest rates remained at 0.50% where they have been since March 2009, while no more Quantitative Easing (QE) was announced with the stock remaining at £375 billion.
We expect there to have been no change in the voting patterns among the nine MPC members in December. We suspect that David Miles was once again a lone voice calling for more QE, with the other eight members preferring to sit tight for now at least. Meanwhile, there is little doubt that all nine MPC members opted to keep interest rates unchanged at 0.50%.
Several MPC members have been disturbed by recent inflation developments and are worried that it could prove sticky over the medium term (partly due to weak productivity). There is also a view that there is little need to act at this stage as the Funding for Lending Scheme should increasingly kick in to increase lending and lower the cost of borrowing. Finally, there are also doubts among some MPC members over how effective more QE would be at the current juncture. In particular, there are doubts that lower yields and higher asset prices would significantly boost the wider economy given elevated uncertainty and a desire to reduce leverage.
The MPC may also want to monitor further how the economy is developing following the 1.0% q/q rebound in GDP in the third quarter. The MPC believes a small dip in GDP is very possible in the fourth quarter due to an unwinding of the special factors that boosted the third quarter performance (including the Olympics), but they are likely to want to gauge if the recent largely weaker news on the economy runs deeper than that.
With the economy seemingly struggling markedly in the fourth quarter, and with recovery prospects fragile, we lean towards the view that the Bank of England will ultimately decide to give the economy a further helping hand with a further £50 billion of QE. This could well occur in the first quarter of 2013 if data and surveys over the coming weeks point to the economy genuinely flirting with a “triple dip”. This would take the stock of QE up to £425 billion which we expect to be the ceiling.
The MPC may also be minded to do some more QE to put some downward pressure on the pound, given that Sir Mervyn King has started that the pound’s overall appreciation since mid-2011 has not been helpful for the UK economy.
Significantly when delivering the Bank of England’s Quarterly Inflation Report for November, Sir Mervyn King specifically commented that the MPC has not lost confidence in QE as a policy instrument or decided that it will not be used again. Furthermore, he stated that the MPC had made “no decision at all not to have asset purchases as we do them now as our main instrument in future.”
Meanwhile, we expect interest rates to remain at 0.50% for at least another two years from here. The Bank of England certainly isn't going to raise interest rates anytime soon given the economy's extended weakness and limited recovery prospects in the face of a tight fiscal squeeze and still serious problems and uncertainties in the Eurozone. However, we very much doubt that the Bank of England will take interest rates below 0.50% given ongoing doubts within the MPC that such a move would have a net overall beneficial impact for the economy.
Retail sales in November and CBI distributive trades survey for December
Retail sales volumes (out Thursday) are expected to have risen by a relatively modest 0.3% month-on-month in November after disappointingly falling by 0.8% month-on-month in October. This would cause retail sales volumes to be up by 1.4% year-on-year in November.
Survey evidence for November from the British Retail Consortium (BRC) pointed to only moderate retail sales growth during the month, but the Confederation of British Industry (CBI) distributive trades’ survey was pretty robust. Given that the BRC survey for a month comes out significantly later than the CBI’s survey, this suggests that retail sales may have been decent early on in November but then faded as the month progressed. Indeed, the BRC itself backed this up by commenting that sales were helped early on in November by the later half-term and mid-season sales, but then softened.
Critical for retailers and for the economy is how much consumers spend in December. Early indications of this will come from the CBI’s distributive trades’ survey for December (out Wednesday). We expect the survey to show that the balance of retailers reporting that sales were up year-on-year (y/y) stands at +27% in December. While down from +33% in November and +30% in October, this would be well above the monthly average of +10% during the first 11 months of 2012.
A serious battle of wills may well develop over the coming days between many consumers holding off from doing their Christmas shopping until the last moment in the hope that increasingly worried retailers will offer more and more discounts and promotions, and retailers holding firm on prices in the belief that consumers will increasingly buckle and buy as Christmas gets nearer and nearer.
Retailers are fervently hoping that an overall improvement in consumers’ health during 2012 will ultimately support spending over Christmas. Specifically consumers have benefited from robust employment growth, a marked overall retreat in consumer price inflation (down from 5.2% in September 2011 to a low of 2.2% in September 2012) and an edging up in earnings growth through to August from the lows seen earlier in 2012. Retailers’ hopes that consumers will ultimately spend for Christmas were fuelled by consumer confidence spiking up to an 18-month high in November.
However, latest developments point to an appreciable reversal of the improvement in consumers’ purchasing power seen over much of 2012, which could be reducing their ability and willingness to spend over Christmas. In addition, there is a danger that the Chancellor’s largely depressing Autumn Statement may have hit consumer confidence just as the Christmas shopping period ahead of its climax.
Consumer’s purchasing power will have been hurt by consumer price inflation rising back up to 2.7% in October, while earnings growth fell back in both September and October. Specifically, year-on-year growth in overall earnings growth (including bonuses) retreated to 1.3% in October from 1.8% in September and 2.3% in August. It had previously trended up to 2.3% in August from under 1.0% in the first quarter of 2012.
Consumer confidence in December
The GfK/NOP consumer confidence index (out overnight Thursday/Friday) is expected to have fallen back significantly in December after jumping to an 18-month high in November. However, we do expect consumer confidence to have lost all of the November gain, which was led by sharply reduced pessimism over the economy’s recent performance and the outlook for the next year. Indeed, November’s gain in consumer confidence was the seventh largest monthly increase since the series started in 1974 and was likely fuelled by the news that GDP had rebounded by 1.0% q/q in the third quarter..
While consumer confidence spiked to an 18-month high in November, it should be borne in mind that it was still very low compared to long-term lows. Specifically, the GfK/NOP consumer confidence index (which is carried out on behalf of the European Commission) spiked to -22 in November after dipping to a six-month low of -30 in October from -28 in September. The index had earlier edged up from -29 in August–May, and -31 in April and March. Even though the index was at an 18-month high in November, at -22 it was still well below its lifetime average of -9.
We expect consumer confidence to have weakened in December as a consequence of recent softer news on the economy leading to a renewed increase in concerns over the outlook. We also suspect that the largely depressing Chancellor’s Autumn Statement at the start of December may have weighed down on confidence. Higher energy tariffs and food prices may also have negatively affected consumers’ mood. Specifically, we see the consumer confidence index falling back to -26 in December, after the jump to -22 in November from -30 in October. This means it would lose half of the November gains.
Public finances in November
Public finances data for November (out Friday) are expected to show a slightly smaller shortfall compared to a year earlier, after a particularly disappointing performance in October when there was a jump in spending.
Specifically, we forecast there to have been a Public Sector Net Borrowing Requirement (PSNBR) excluding financial interventions of GBP16.0 billion in November, compared to a deficit of GBP16.4 billion in November 2011. In October, the PSNBR had jumped to GBP8.6 billion from GBP5.9 billion a year earlier, largely due to a 7.4% year-on-year jump in current government spending, which can be volatile from month to month. Corporate tax receipts again disappointed in October, influenced significantly by lower profits from energy companies. Stripping out the distorting, one-off impact of the transfer of GBP28.0 billion of assets from the Royal Mail's pension funds in April, this meant that the PSNBR excluding financial interventions amounted to GBP73.3 billion in the first seven months (April-October) of fiscal 2012/13, which was up from GBP68.3 billion in the corresponding period in 2011/12.
The Chancellor acknowledged in his Autumn Statement that the public finances are taking longer to rectify than had been targeted, but chose to extend fiscal consolidation by another year rather than enacting more austerity now and risk damaging already muted and fragile economic growth prospects. In following this course, the government followed the advice offered by the IMF, OECD and the Bank of England not to respond to expected higher-than-planned deficits over the coming years by pursuing more austerity now. Indeed, the Chancellor indicated that that the Autumn Statement is fiscally neutral over the lifetime of this parliament (due to last through to May 2015).
There has to be a very real danger that at least one of the credit rating agencies will strip the UK of its AAA rating over the coming months. Indeed Standard & Poor’s on Thursday put the UK’s AAA rating on negative outlook. This means that all three of the major credit rating agencies now have the UK’s AAA rating on negative outlook. Fitch had put the AAA rating on negative outlook back in March, while Moody’s had done so in February. Furthermore, Fitch has already commented that the Autumn Statement weakened the Chancellor’s fiscal credibility, while Moody’s has indicated that it will revisit the UK’s AAA rating early in 2013.
The loss of the UK’s AAA rating would clearly be seen as an embarrassment for the government given the emphasis it has frequently placed in the past on keeping the AAA rating. Indeed, Chancellor George Osborne made it a key focus for the UK’s fiscal austerity prioritization as soon as the government came to power in the summer of 2010. It is notable though that the government has appeared to place less emphasis on the importance of the AAA rating in recent times as the threat to it has mounted!
However, we suspect that the loss of the AAA rating will have little negative impact for the UK economy. There are so few countries left now with a AAA rating, that to lose it would not be the stigma or major threat to market confidence that it would have been say a couple of years ago.
While parts of the financial system are voluntarily hard wired into the ratings, a slip from AAA to AA would most likely have only a limited impact on the UK (apart from piqued pride) as was the case for both France and the USA. What actually bites at the end of the day (i.e. can change the debt dynamics) are actual borrowing costs and they remain very low for UK. Markets, in other words, aren't yet prepared to charge a significant country risk (I.e. a markedly higher interest rate risk premium on the UK) despite its deepening problems. However, the situation is getting more uncomfortable, and the differential between the UK and German yields has widened to a limited extent recently.
By Howard Archer
18 Dec - Consumer Price Inflation, November (Month-on-Month): +0.3%
18 Dec - Consumer Price Inflation, November (Year-on-Year): 2.8%
18 Dec - Core Consumer Price Inflation (ex Food, Drink, Tobacco), November (Year-on-Year): 2.5%
18 Dec - Retail Price Inflation, November (Month-on-Month): +0.4%
18 Dec - Retail Price Inflation, November (Year-on-Year): +3.4%
18 Dec - Underlying Retail Price Inflation, November (Month-on-Month): +0.4%
18 Dec - Underlying Retail Price Inflation, November (Year-on-Year): +3.3%
18 Dec - Producer Price Input Inflation, November (Month-on-Month): not forecast
18 Dec - Producer Price Input Inflation, November (Year-on-Year): not forecast
18 Dec - Producer Price Output Inflation, November (Month-on-Month): +0.2%
18 Dec - Producer Price Output Inflation, November (Year-on-Year): +2.5%
18 Dec - Core Producer Price Output Inflation (ex Food, Tobacco etc.) November (Month-on-Month): +0.1%
18 Dec - Core Producer Price Output Inflation (ex Food, Tobacco etc.) November (Month-on-Month): +1.5%
19 Dec - Bank of England Monetary Policy Committee interest rate vote split, December (Hike-Unchanged-Cut): 0-9-0
19 Dec - Bank of England Monetary Policy Committee Quantitative Easing vote split, December (More-Unchanged-Reduced): 1-8-0
19 Dec - CBI Distributive Trades Reported Volume of Sales, December: +27%
20 Dec - Retail Sales, November (Month-on-Month): +0.3%
20 Dec - Retail Sales, November (Year-on-Year): 1.4%
21 Dec - Public Sector Net Borrowing Requirement, December (GBP/Bln): 16.0
21 Dec - GDP, Third Quarter 2012 (Quarter-on-Quarter): +1.0%
21 Dec - GDP, Third Quarter 2012 (Year-on-Year): -0.1%