UK outlook: darkest before dawn
Recent data on economic activity has largely been negative, and we expect the UK economy to have entered a recession in Q3. At the heart of this is the strength in inflation: while price pressures wane over 2023, they remain high, which leads to further falls in household incomes and spending. The weakness in activity also drags on private-sector investment.
However, we expect the recession to be relatively short-lived, with the economy returning to growth over 2024 – principally as further falls in inflation alleviate the squeeze on household incomes. But longer-term economic challenges remain firmly in place, with both GDP and productivity remaining well below their pre-pandemic trends at the end of our forecast.
2022 has been a tough year for many businesses, with cost pressures soaring amid a growing squeeze on households. It’s clear that 2023 will remain a difficult trading environment: the persistent strength in inflation has likely tipped the economy into a recession that will last for most of the coming year, centred around falling household spending. The effects will be felt most acutely by those firms with the greatest exposure to households, especially those lower down the income distribution.
However, there are a few consolations. We expect this recession to be a mild and short-lived one by historical comparison. There are also early signs of global cost pressures having peaked, with measures of supply chain disruption coming off and commodity prices having fallen back. And it is always darkest before dawn: the outlook for 2024 looks much better, as lower inflation and a recovery in real incomes bolster economic growth.
But businesses should be conscious of the high degree of risks to the outlook and their own operating environments, particularly those stemming from abroad. An escalation of the conflict in Ukraine could exacerbate global price pressures and bottlenecks, alongside raising fresh concerns over the supply of natural gas to mainland Europe. The relentless pursuit of a zero-COVID strategy in China could continue to disrupt supply chains. And as central banks across the world raise interest rates into a downturn, tighter financial conditions may exacerbate tough trading conditions for some companies.
