UK GDP

Figures released this week revealed that UK Gross Domestic Product (GDP) rose 0.7% in the last quarter of 2016, higher than the previous two quarters and the official estimate of 0.6%.

In simple terms, GDP is the sum of consumption + government spending + investment + net exports. Household spending has been stimulating GDP growth since the June referendum. Looking at other factors of the equation, government spending changed very little while business investment dropped 1% as firms chose to spend on information and communication technologies rather than long-term tangible assets. However, the main influence on economic growth has been exports. Sterling weakness has increased overseas demand for UK exports which rose 4.1% in the fourth quarter and made imports (which decreased by 0.4%) more expensive in turn, adding 1.3% to overall growth.

In the UK consumer spending makes up about two-thirds of GDP at 65.1%. This figure is slightly higher in the US at 68.1% but lower in Germany and China where it constitutes 54% and 37% of GDP, respectively. Germany and China are more reliant on their manufacturing sectors with exports comprising 46% of German GDP and 22% of China’s.

Looking at the forecasts, a slowdown in GDP still seems to be the consensus among economists. Household consumption may be hit hardest if wages fail to keep pace with inflation and growth in real incomes is restrained. Uncertainty still surrounds Brexit with regards to what action firms may take with their UK operations. Any relocation of activities to the continent is likely to be detrimental to the economy but, by the same token, should the pound continue to remain at low levels exports will be stimulated and economic growth boosted.

UK GDP (% for Actual and Forecasted)

Source: Bloomberg, Bank of England & ONS, 22 February 2017

Bank Of England

Mark Carney, Governor of the Bank of England (BoE) attended the quarterly Inflation Report press conference this week where he was questioned by MPs over the central bank’s decision to alter a fundamental assumption that helps it to justify keeping interest rates at a record low of 0.25%.

Earlier this month the BoE suggested that the UK unemployment rate could fall to 4.5% (rather than its earlier estimate of 5%) before it started to push up inflation. This should allow interest rates to remain lower for longer – despite the economy continuing to grow since the announcement that the UK would be leaving the European Union.

The UK’s unemployment rate is currently at an 11-year low of 4.8% but wage growth remains weaker than before the 2007-09 financial crisis, prompting the BoE to rethink the links between jobs growth and pay inflation and to adjust its estimate of the equilibrium unemployment rate. According to Carney, the adjustment should allow the BoE to “forecast growth without inflationary consequences”.

The change in assumptions and efforts to improve BoE forecasting come after Carney and the Bank’s Monetary Policy Committee were criticised for failing to predict accurately continued economic growth in the wake of the Brexit vote.

Greece

In 2009, Greece announced a budget deficit (the amount the government borrows to meet the shortfall between what it receives in taxes and what it spends) equal to 12.9% of its Gross Domestic Product (GDP). This was four times the European Union’s (EU) 3% limit. Since then, Greece has imposed several austerity measures and received extensive emergency bailouts from the EU and International Monetary Fund (IMF) allowing the country to continue repaying interest on existing debt and to keep its banks capitalised. Currently Greece has a debt-to-GDP ratio of 177% that continues to be nearly three times the EU’s limit of 60%.

In 2015, Greece received an €86bn rescue package that required the country to meet strict fiscal targets in order to unlock more financial aid and keep the IMF, an important creditor, supportive. There has been speculation that Greece may not meet these ongoing commitments, creating fresh doubt over the fate of Greece and the future of the euro area.

Greece’s bailout inspectors are seeking to change the country’s tax, pensions and labour market laws in a sign that the Greek Prime Minister, Alexis Tsipras, will give way to European pressure for deeper reforms.

The government has agreed to pre-emptive legislative measures which are fiscally neutral and Athens has said it will not institute any additional austerity. However, before any bailout funds are disbursed, a list of prior actions attached to the latest review of its economic support program will need to be completed. According to French Finance Minister Michel Sapin, “The most important thing is that Greece is out of the spiral of austerity that has weighed it down since 2010”.

In a positive move, Greek bonds rallied on optimism that talks to rescue the beleaguered nation may conclude sooner than investors were expecting.

In stark contrast to Greece’s finances, the Office for National Statistics announced the UK registered a £9.4bn budget surplus last month, with corporate tax revenues up 5.4% from a year earlier and income tax and capital gains tax receipts 6.1% higher. While the UK is experiencing better government finances, it is thought that any significant tax giveaways in the UK budget in March are unlikely.

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