Inflation predicted to peak at around 11% in the autumn
Meanwhile the EY ITEM Club says inflation is now likely to peak at 11% in the autumn and average 8.7% over the course of 2022. This implies a more intense squeeze on households’ spending power than expected in the Spring Forecast when inflation was expected to peak at 8.5% and average 6.7% this year. Consequently, the EY ITEM Club expects the MPC to raise interest rates to 2% by the end of 2022.
Despite high inflation, the consumer sector still enjoys some potentially sizeable support from low unemployment, record high job vacancies and healthy household balance sheets, notably the big unplanned savings built up by many consumers during the pandemic. The paying down of unsecured debt over 2020 and 2021 has also created space for some households to borrow to maintain spending in the face of rising prices.
The EY ITEM Club expects consumer spending to rise 4.1% this year, with 0.8% growth penciled in for 2023 – both forecasts have been downgraded from May, when consumption was forecast to grow 4.9% in 2022 and 1.5% in 2023.
Average earnings are forecast to rise 5.5% in 2022, with workers still on course to see the biggest decline in real pay since the late 1970s. On a calendar-year basis, the EY ITEM Club expects earnings to fall short of inflation until 2024.
The tenth edition of EY’s Future Consumer Index, published last week, found that nearly half (46%) of low-income respondents said that they felt financially worse off compared to February this year. Forty-four per cent (44%) of this group expect their financial situation to be worse in 12 months, while just 15% of high-income consumers expect to be financially worse off over the same timeframe.
Martin Beck, chief economic advisor to the EY ITEM Club, says: “Although households are experiencing a significant squeeze, there are factors helping to relieve some of the pressure. Job security provided by unemployment being at a near-50-year low and a candidate-friendly jobs market should give consumers more confidence in saving less and borrowing more. Meanwhile, higher-income households are responsible for an outsized share of consumer spending, and this group is best placed to deal with cost of living pressures thanks to savings accumulated in the pandemic. At the other end of the scale, the extra fiscal support announced by the Government after the last forecast in May will go a significant way to protecting some of those on low incomes from rising energy bills.
"There are some significant risks to growth which could prevent the economy from meeting the forecast, not least the prospect of further supply shocks, whether in energy markets or the ongoing impact of COVID-19 on supply chains. A monetary policy overreaction to inflation is a key risk too, and the UK economy’s current relative weakness means the Bank of England’s Monetary Policy Committee has been right to take a more cautious approach to raising rates than other central banks.”