UK financial services set for slowdown next year and only a gradual pickup in growth is predicted in the latter stages of the decade, even with a ‘softer’ Brexit

10 August 2017

  • Share
  • Net business lending predicted to stagnate in 2018 and 2019 before slowly climbing to £435bn by 2020 
  • Growth in mortgage lending expected to slow in 2017 and stock to fall back in 2018, but gradual upturn forecast in 2019 and 2020
  • Consumer credit still rising but growth rate likely to cool from high of 8% in 2016

Following the relative highs of 2016 when some parts of lending returned to growth rates reminiscent of the pre-financial crisis period, the overall rate of lending growth is set to slow in 2017 and even turn negative in certain cases in 2018, according to the latest EY ITEM Club outlook for financial services. Conditions are likely to be tough next year as the effects of higher inflation on economic activity feed through and, whilst a gradual return to growth is expected in 2019 and 2020, the outlook remains challenging even with the prospect of a transitional Brexit deal.

The stock of mortgage lending is set to fall back to £1,184bn in 2018 (from £1,192bn in 2017) before gently picking-up, reaching £1,196bn in 2019 and £1,226bn in 2020. Lending to business is expected to drop back marginally in 2018 to £424bn (from £425bn in 2017) before gradually climbing to £427bn in 2019 and £435bn in 2020.

The EY ITEM Club outlook for financial services predicts that inflation is set to peak at just over 3% in in the second half of this year – the fastest rate since 2012. This, combined with subdued pay growth, means 2017 is set to be a year of falling real earnings. Real household disposable incomes are also forecast to decline by 0.2% this year, the first drop since 2013, which is likely to dampen demand for mortgages and general insurance heading into 2018.

At the same time, higher inflation could support demand for consumer credit if households attempt to compensate for the hit to real incomes by borrowing more. The stock of consumer loans is forecast to grow from £204bn in 2017 to £206bn in 2018, before rising to £212bn in 2019 and £218bn in 2020. But reflecting a softer economy, growth rates are set to cool to an average of 3% from 2017 to 2020 (down from a 9 year high of 8% in 2016).

Omar Ali, EY’s UK Financial Services Managing Partner, commented: “Even modelling for a Brexit transitional deal, the outlook for 2018 remains tough for financial services as the impact of higher inflation is felt by households up and down the country. Business lending, mortgage lending and general insurance look set to be the hardest hit. Despite warnings from the Bank of England and some high-street lenders, the only type of lending that is expected to grow in 2018 is consumer credit. A return to mortgage and business lending growth is forecast for the latter stages of the decade, but this does depend on the right deal being struck with Europe.” 

Insurers set to face further challenges and policy headwinds

The UK insurance sector continues to be confronted by a challenging macroeconomic climate. Weak earnings growth combined with higher inflation is set to depress demand for big ticket purchases and have a knock-on effect on associated non-life insurance products. Car registrations are forecast to drop from a record 2.69m in 2016 to 2.58m this year and 2.42m in 2018, whilst annual growth in housing transactions is predicted to average 2.6% from 2017 to 2019, compared to the 7% average of the previous five years.

General Insurers will also face policy headwinds. June’s rise in Insurance Premium tax (IPT) from 9% to 12% represents a doubling of the rate in 18 months. Legislation to reduce whiplash claims has been postponed because of the recent general election and the timing of the review into the Ogden discount rate for personal injury claims may also be delayed. The need for increased transparency – since April, insurers have been required to include the price of the previous year’s policy on each renewal quote – is also likely to impact insurers.

At the same time, premium levels have risen to offset some of these factors. The price of car insurance rose by 11.6% in the three months to May compared to a year earlier, the fastest increase in six months and more than four times the rate of overall consumer price inflation. The EY ITEM Club outlook for financial services predicts that non-life premium income will grow by around 3% in 2017 and 2018, compared to 2.6% in 2016.

The life and pensions sector is expected to perform better and enjoy relative stability, supported by the strong growth in the equity markets. Life gross premiums are predicted to rise by an average of 4% per year from 2017 to 2020, compared to the 5.5% averaged in the five years to 2016.

AUM predicted to continue to grow but mixed prospects for bonds and equities

2016 saw Assets Under Management (AUM) reach a six-year high of almost £1.1t, spurred by the strong growth in equity markets and the boost to the value of overseas assets provided by the fall in sterling since the EU Referendum. AUMs are expected to continue to rise over the next few years, albeit more modestly, and the EY ITEM Club outlook for financial services predicts that total AUMs will reach £1.3t by 2020.

Bonds’ share in UK AUMs are expected to see a modest decline from 15.2% in 2016 to 13.8% in 2020. This is driven by the likelihood of further rises in the US interest rates this year and a tapering of the European Central Bank’s asset purchase programme.

Equities, however, are expected to fare better because of the pick-up in global growth and the prospect of sterling’s value remaining depressed. Equities under management are forecast to rise by just under 6% per year from 2017 to 2020.

Omar Ali concluded: “There’s been a lot of speculation about what will happen in the longer-term regarding Brexit and a transitional deal. That’s only right - given the importance of financial services to overall economic prosperity in the UK, it’s vital that the industry’s needs are front of mind during the Brexit negotiations. However, we can’t afford to lose sight of the short-term. Both mortgage, and business lending to a lesser degree, are expected to drop back next year. This will naturally impact the real economy. Falling real disposable incomes and policy headwinds will make 2018 a tough year for general insurers and there’s also a risk of consumer credit growing out of pace with affordability as people try to compensate for the impact of inflation.”