Press release

27 Jan 2020 London, GB

EY ITEM Club urges caution on interest rates, with UK economy set to benefit from reduced near-term uncertainty and fiscal stimulus

UK GDP growth forecast increased to 1.2% for 2020, up from 1.0% three months ago

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Related topics Growth
  • UK GDP growth forecast increased to 1.2% for 2020, up from 1.0% three months ago
  • Businesses are expected to unleash some investment this year, but it is unlikely to be a major surge
  • EY ITEM Club urges caution on interest rates due to healthier near-term economy and fiscal stimulus expected in the Budget
  • Consumer spending growth projected to improve from 1.2% in 2019 to 1.4% in 2020, as real household disposable incomes rises by 1.8% in 2020
  • House prices predicted to rise by around 2.8% over 2020

London, Monday 27 January 2020 – The outlook for the UK economy has improved over the last three months, with the decisive nature of the General Election result and the resulting clarity on the first stage of Brexit expected to provide a short-term boost to economic activity. The EY ITEM Club’s Winter Forecast has increased its projection for GDP growth to 1.2% in 2020 and 1.7% in 2021, compared to the 1% and 1.5% predicted in its last quarterly forecast.

The predicted growth for 2020 is slightly less than the estimated outturn of 1.3% in 2019. However, EY ITEM Club expects UK GDP expansion to improve from 0.8% in the fourth quarter of 2019 to 1.6% in the fourth quarter of 2020. 

According to the forecast, the UK economy is likely to show signs of improvement in the early months of 2020 but may struggle to ‘kick on’ as the year progresses due to uncertainty around the EU and UK’s longer-term relationship. The EY ITEM Club expects the UK economy to see stronger growth in 2021 as a result of reduced uncertainties, fiscal stimulus, a healthier labour market and a brighter global economic environment. This is based on the assumption that the UK and EU reach some form of Free Trade Arrangement by the end of 2020, or end up extending the transition agreement.

Mark Gregory, EY’s UK Chief Economist, comments: “There may be some improvements in the economy, but it’s not time to pop the champagne yet. While we have some clarity, there are still significant unknowns – about the trade deal around Brexit, and the wider policy agenda of Government.

“The Government has indicated that it will be aiming to use the Budget to boost investment in infrastructure and help “level up” economic performance in struggling towns. It should also aim to encourage businesses to invest and consumers to responsibly increase their spending to provide growth to support the plans for economic rebalancing.”

Interest rates should stay on hold

The EY ITEM Club forecast assumes that interest rates will remain on hold this year until around mid-2021, although it acknowledges that the Monetary Policy Committee’s decision on 30 January looks to be on a knife edge and is very hard to call.

EY ITEM Club urges caution on monetary policy and believes that interest rates should remain at 0.75% this month – and likely beyond – given that the economy looks well-positioned to pick up early on this year, fiscal stimulus is on the way and the labour market also looks strong.

The near-term outlook for the UK economy has improved with the reduced uncertainties following the decisive General Election result likely to trigger some business investment and projects that had been delayed during 2019, says the EY ITEM Club. Consumers may also be more prepared to step up their discretionary spending. Meanwhile, further fiscal stimulus is expected in the Chancellor’s Budget on 11 March. This follows the sharply increased public expenditure of 4.1% in real terms for 2020/21, announced in the September 2019 Spending Review.

The EY ITEM Club believes that the Bank of England can justifiably remain in “wait and see” mode, despite recent indications from some MPC members that they may act quickly on interest rates if there are no signs of immediate improvement in the economy. The robust latest labour market data (with employment jumping 208,000 in the three months to November) reinforces the EY ITEM Club’s view that the Bank of England should hold fire for now at least on interest rates.

Business investment likely to pick up, but this will be limited

According to the EY ITEM Club, business investment is expected to increase by 1.4% in 2020 due to the reduced near-term uncertainties. It predicts that businesses will remain cautious but that they are likely to unleash some investment. Business investment growth is expected to pick up markedly to 3.1% in 2021 on the assumption that uncertainties are diluted by the UK and EU avoiding a ‘no-deal’ end to their relationship at the end of 2020 and that the economy sees improved activity in 2021.

Consumers hedging their bets

The forecast is also predicting only small improvements in consumer spending. Growth is expected to improve from 1.2% in 2019 to 1.4% in 2020, despite real household disposable incomes expected to rise by 1.8% in the period following growth in 2019. This caution partly explains the challenges on the high street – the Office for National Statistics recently reported that UK retail sales fell markedly in December 2019, as part of the longest contraction since comparable records began in 1957.

According to EY ITEM Club, the fundamentals for consumers will still be decent in 2020 but they will likely be affected by earnings growth being below the highs seen in mid-2019 as well as slower employment gains. Consumers should benefit from low inflation while some will be helped by the ending in April of the four-year freeze on working benefits.

House prices bestowing some confidence

The improving outlook for consumers should also see better prospects for the UK housing market. The EY ITEM Club has increased its house price forecast from its last report in the autumn. House prices are seen rising by around 2.8% over 2020, up from the 2.0% predicted three months ago. It expects house prices to rise at a modestly increased rate of around 3.5% in 2021.

Howard Archer, chief economic advisor to the EY ITEM Club, says: “Positive news for the UK economy in the short term has resulted in a small increase in our house price forecast. Reduced near-term uncertainties, very low mortgage rates and some helpful measures in the Chancellor’s Budget could provide a lift to housing market activity, while a shortage of supply may continue to provide some support to prices. Nevertheless, we will want to see sustained evidence of improving housing market activity and firmer prices before increasing our forecast further.”

Businesses need to look beyond Brexit

Concluding, Mark Gregory, says that while there are still significant uncertainties in the forecast, it’s time for businesses to start thinking beyond Brexit. “Significant uncertainty may still exist, but we can be certain that change is coming. The UK is leaving the EU, the new Government has talked of an ambitious programme, the consensus on globalisation has broken, and demographic change, technology and the climate emergency will all impact the economy in the coming years. These factors may come together in new ways: concerns over the climate may lead to further reductions in trade, and support for localism that boosts towns may be possible through deploying technology in new ways. The economic outlook is challenging and now is the time for businesses to think creatively about their long-term strategy and their plans to deliver it.”