U.K. Mid-Year Economic Outlook
|Executive Summary
Economic growth in the United Kingdom picked up modestly in Q2 after slowing in the first quarter. Real GDP rose 0.4 percent on a sequential basis, driven by solid growth in consumer and business spending. Inflation in the U.K. has also returned closer to the Bank of England’s (BoE) 2 percent target in recent months after surpassing 3 percent in the wake of the Brexit referendum in 2016. Real wages now look poised to pick up and, along with a tight labor market, should continue to support consumer spending going forward. While growth in domestic demand remained solid in Q2, export growth dropped into negative territory. However, solid global economic growth in the second half of the year should prove a positive for international trade in the U.K., and we look for overall GDP growth to continue to grind higher this year and into 2019.
But Brexit remains the elephant in the room, as uncertainty has increased recently on whether the U.K. and European Union can iron out the future of their economic and financial relationships by the March 2019 deadline. The possibility that negotiations break down and a “hard” Brexit occurs next year poses a substantial downside risk to our forecast of sustained economic growth in the U.K., given the extensive trade and financial ties between the two economies. Uncertainties surrounding negotiations also have the potential to weigh on investment spending, which has already slowed in the wake of the initial referendum in 2016. For now, our brighter outlook for the future of the U.K. economy is based on the assumption that a “hard” Brexit does not come to pass. Should this be the case, we look for the BoE to continue to tighten policy, albeit at a very gradual pace. Inflation has already come back toward target, and higher debt-servicing costs for U.K. households also pose a risk to consumer spending. Brexit-related concerns remain on the horizon, and the BoE will likely proceed with caution until some of these uncertainties subside.
U.K. GDP Rebounds Modestly in Q2 after Sluggish First Quarter
Data released today showed that real GDP in the United Kingdom grew 0.4 percent on a sequential basis (1.5 percent at an annualized rate) in Q2-2018 (Figure 1). The outturn represents a modest strengthening in growth relative to the 0.2 percent rate that was registered in the first quarter; however, the economy has only grown a relatively slow pace over the past several quarters. That said, a breakdown of the real GDP data into its underlying demand components showed that several sectors of the economy made a comeback in Q2. Consumer spending rose 0.3 percent in the quarter. As inflation has receded in recent months, which we discuss in more detail below, there are signs that real wage growth is beginning to pick up. Higher real wages along with a tight labor market–the unemployment rate is currently at a 43 year low—should support growth in consumer spending in coming quarters.
Investment spending was also a notable standout, rebounding 0.8 percent in the quarter after growth dropped into negative territory in Q1. While business fixed investment has decelerated in the wake of Brexit-related uncertainties, the Q2 rebound is supportive for near-term GDP growth prospects. Although consumer spending and business fixed investment proved to be bright spots in today’s print, international trade was a drag on topline GDP growth. Exports dropped 3.6 percent after posting flat growth in Q1, and imports also declined in the quarter. That said, solid global economic growth in the second half of the year should be supportive of a resurgence in external demand.
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