UK Economics Focus
The swift and significant response of the Bank of England to the Coronavirus crisis has prevented a financial crisis, but we think the Bank will need to do much more than the markets currently expect to get the economy back on track.
By this time next year, we suspect that the Bank will have announced an extra £350bn of quantitative easing (QE), which would take the stock of QE to almost £1,000bn. We think it will be five years before the Bank raises interest rates above 0.10% and at least ten years before it even thinks about unwinding QE.
The average peak to trough fall in GDP globally as a result of the Coronavirus is around -13% and about the same in the US, but the UK has suffered more than most at -25% largely due to their response and the length of lockdown. Forecasts by Capital Economics predict that by the end of 2022 GDP will still be about 5% lower than it would have been if Coronavirus never existed, the unemployment rate will be closer to 5.5% than the pre-crisis rate of 3.8% and CPI inflation will be well below the 2% target which suggests the Bank of England will need to do more. Negative interest rates would be a big symbolic step but would not be a magic bullet. Rather than cut rates quickly to -0.5% or -1.0%, it would probably move in baby steps over a long period of time. Perhaps the bigger issue is that monetary policy (setting of interest rates) is just not as effective at boosting demand and inflation as it once was. That suggests monetary policy will have to remain loose for many years and that fiscal policy (government spending and taxes) will need to do much of the heavy lifting.
Whilst the level of debt might increase from 80% of GDP to 105% of GDP it is still well below the levels following the Second World War. Further what is seen as a legacy of debt on the next generation can be manged if GDP growth exceeds inflation. In other words, it will be no different to a homeowner taking out a mortgage over 25 – 30 years. The trick will be to manage inflation in the future to prevent interest rates rising too much. This route will prevent a return to austerity and higher tax rates.
The opinions expressed are those of Irongate using the independent research of Capital Economics and are subject to market or economic changes. This material is not a recommendation, or intended to be relied upon as a forecast. You may get back less than the amount invested. The value of an investment with St. James's Place will be directly linked to the performance of the funds selected and may fall as well as rise.