Can the UK recession be avoided?

Just before polling day the Bank of England published the May Monetary Policy Report as well as increasing the Bank Rate to 1%. They expect the Bank Rate to continue to increase and peak at 2.5% by “mid-2023”. They state, “That predominantly reflects the significant adverse impact of the sharp rises in global energy and tradable goods prices on most UK households’ real incomes and many UK companies’ profit margins.” They expect unemployment “to rise to 5½% in three years’ time”.

They state, “CPI inflation is expected to peak at slightly over 10% in 2022 Q4, which would be the highest rate since 1982”.

“Total real household disposable income is projected to fall in 2022 by the second largest amount since records began in 1964 before picking up thereafter” they forecast. Total demand in the economy will fall below total supply by the fourth quarter of this year. They quote an ONS survey of March where 42.5% of people, “said they had cut spending on non-essentials” due to lower real incomes.

This means that people will be able to buy fewer things. Demand for items will decrease. This leads to businesses producing less and unemployment increasing.

The Monetary Policy Committee produce different projections based on different assumptions. Their main projections are based on the assumption that the Bank Rate “rises to around 2½% by mid-2023, before falling to 2% at the end of the forecast period”. However, they also state that, “In projections conditioned on the alternative assumption of constant interest rates at 1%, activity is projected to be materially stronger than in the MPC’s forecasts conditioned on market rates. As a result, unemployment remains close to its current rate over the forecast period, instead of rising by around 1½ percentage points. CPI inflation is forecast to be significantly higher, with inflation projected to be 2.9% and 2.2% in two years’ and three years’ time respectively.” Also economic growth in the second quarter is higher – in 2023, 0.3% compared to 0%; in 2024, 0.6% compared to 0.2%; and in 2025, 0.9% compared to 0.7%. With their main projections they forecast negative growth of 0.2% in the first quarter of 2023 and 0.8% in the third quarter. Also with this forecast it is likely that economic growth in 2023 will be either zero or close to zero.

It is clear from the Bank of England’s two different forecasts that leaving the Bank Rate at 1% would improve economic growth and reduce the increase in unemployment. This is one way that the coming recession can be avoided.

The other way was by the government taking different action. The government could have taken action to avoid this squeeze on household real income. It could have frozen the energy price cap, applied it to businesses and then paid the energy supply companies the difference between the frozen energy price cap and what it should be. It could do the same in October.

Ofgem state that because of the increase in the energy price cap “those on default tariffs paying by direct debit will see an increase of £693 from £1,277 to £1,971 per year (difference due to rounding). Prepayment customers will see an increase of £708 from £1,309 to £2,017”.

The government’s increase in the National Insurance threshold from 6th July to £12,570 should provide just over £267 to those earning above £12,570 over the last three-questers of the year. The government is also giving £150 to council tax payers who live in a band A to D property.

Our policy of cutting VAT by 2.5% would reduce some of the increase in prices and so would improve real household disposable income. We state that this would save households an average of £600 a year.

It is expected that the direct debit energy price cap will increase by £600 from 1st October. This will mean bills increasing by a further £300 for the second half of the year.

To avoid the coming recession, assuming the government doesn’t want to carry out our policy, it should increase the amount it is giving to council tax payers to £650 now with a further amount of £33 in October. However the poorest need even more: a further £69. They could provide this for couples by increasing benefits by a further 1.1% (£1.33 a week for couples on University Credit).

 

 

* Michael Berwick-Gooding is a Liberal Democrat member in Basingstoke and has held various party positions at local, regional and English Party level.

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23 Comments

  • The FT has an article this week warning of the prospect of a prolonged stagflation Stagflation looms in UK as economic growth grinds to a halt The principle tool to moderate high inflation is a slowing of the increase in money supply (i.e. reduced new lending by banks in excess of repayments on existing loans).
    During the financial crisis of 2008 — household debt in the UK peaked at 148% of disposable income. Before the pandemic, according to the latest figures from the Bank of England, household debt was 123% of disposable income. But the share of households reporting being in financial difficulty has started to increase, particularly for households with unsecured loans, who tend to have lower incomes and are less likely to be in employment.
    Because average prices are higher, it is more difficult for families to cut back on spending.This situation is leaving some unable to pay their rent or keep up with their mortgage, leading to rising defaults. Stagflation can create a situation where things quickly spiral out of control.
    On a Sky News Q&A yesterday a caller commented “I have a choice between paying for Council tax or Electricity, Gas and food. It’s not hard to choose the winner.
    A reform of council tax to make it proportional to property value and payable by landowners rather then tenants would go a long way to easing some of these cost of living pressures.

  • Jenny Barnes 13th May '22 - 4:16pm

    Other questions to which the answer is “no”:
    #Will there be a large supply of CO2 free energy in the very near future?
    #ditto fossil fuel ?
    Because our (world) economy relies on consuming lots and lots of energy. The frackers in the US won’t invest because they ‘ve lost money with the price of oil going down suddenly after they’ve drilled, Russia is being disconnected from the rest of the world, Saudi is probably producing as much as it can.
    So we have a serious crisis in the way we run our economy. The price of energy is soaring, so everything that depends on energy – like home heat, electricity, transport, fertiliser, food, steel, …will have to go up in price. A lot, because energy demand does not change much with price. Aviation/ flying holidays and cars look vulnerable to people cutting their expenditure on non-essentials. Car sales are down, and more people are running cars with more than 100k on the clock. So unemployment will increase and the economy shrink – it’s the only option.
    And instead of serious government we have clowns posturing about the NI protocol , cutting fuel duty and pretending that people only need food banks because they don’t know how to cook. In the Q speech they talked about getting the economy to grow – but they have no idea how. Will we discover N.Sea Oil again?

  • It looks like that next year we will have stagflation. However, we don’t have to have stagflation. The Bank of England projections show that if the Bank Rate was held a 1% instead of being increased to 2.5% the UK economy would continue to grow and unemployment would not increase. Increasing the Bank Rate removes demand from the economy. This is a policy to reduce inflation when inflation is being driven by too much demand in the economy. It is the wrong policy for our current situation.

    The government and our party seem to understand that the correct policy is to provide people with the money to pay the increase in the price of energy. The government’s main policy is to provide £350, of which £200 is a loan. Ours to indirectly provide £600.

    As I wrote in the article a better policy would have been to have frozen the energy price cap and extending it to non-domestic users and subsidising the energy suppliers to do so. This would have reduced inflation and the reduction in demand. The price of oil is another driver of inflation and therefore the government could have fixed the price of petrol and subsidised the petrol suppliers. A windfall tax on the increased profits of gas and oil producers and traders could help pay for this.

  • Peter Martin 14th May '22 - 10:20am

    This economic crisis is quite different to the crisis of a decade ago during the period of the Coalition. Then, needless though it was, the worry was over extent of the government’s deficit. There was a general failure to recognise any large government deficit was simply a mirror image of the desire of everyone else to run a large surplus in the aftermath of the 2008 GFC.

    The misapplication of economic austerity, cutting spending and raising taxes etc, which is essentially a counter inflationary policy, could only work by making everyone poorer and too poor to be able to run any surplus.

    This time we do have an inflation problem. Remedial measures have to be different. Calls for government to increase its deficit usually miss the point. This will only be possible if the rest of us, including our overseas trading partners, want to increase our savings (surplus). If we don’t, no government surplus will be possible. If Government tries to force the issue, inflation will rise even higher and the pound will fall further.

  • @Michael BG – The latest Bank of England Rate increase and the nonsensical rationale for it, just confirmed – following the previous nonsensical increase they voted for, that the BoE panel of experts are not experts, they have no idea and are simply pulling economic levers in blind belief.

    As for freezing the price of fossil fuel energy – daft, better to utilise what is already in the market and charge different prices for fossil fuel electricity and green electricity, whilst ensuring that those on low incomes (not necessarily on benefits) get first pick of the green tariffs. The high and increasing prices of fossil fuels will drive real change, just as CoViD and lockdown drove real change.

    Remember, now is the time to start planning for a much smaller economy. Policies which assume life will be able to return to “normal” in a few years, simply deny reallity.

  • Peter Martin,

    I am surprised that you think the government should take action against inflation rather than the forthcoming recession. The inflation is caused by external factors. If the government had intervened to stop this inflation entering the economy by fixing energy and petrol prices economic growth would have continued as forecast. People would still have had the money to spend and aggregate demand would not be falling and leading to a recession.

    As the government failed to fix the price of energy and petrol the only option it has now is to provide people with the money to pay these increased prices so people will still have the money to spend on other things.

    With reference to your theory about how the economy works. Businesses will be less likely to invest because of the forthcoming recession, so the government will be able to borrow the money they would have borrowed.

    Roland,

    How would the government ensure different prices are charged for energy from different sources? How would they ensure that households on benefits and those who have low incomes are supplied the cheaper green electricity. What would they do about those on benefits or low incomes who use gas to cook with and to heat their homes and water? These people will not be able to afford new cookers and/or central heating systems.

  • Peter Martin 15th May '22 - 2:23pm

    @ Michael BG,

    Anti policy has to be both anti-inflationary and also help those who are most likely to be affected by that

    I had to split my comment into two parts to fit into the word limit. The first appeared but the second, and in which I did suggest how this could be done, was rejected. There are enough real resources for all but they do need to be distributed more equitably.

  • Jenny Barnes 15th May '22 - 4:02pm

    One sensible move on domestic energy would be to remove standing charges on gas & electric, and apply them by increasing the cost of units over (say) 3 MWh electricity, 5 MWh gas, so that heavier users are paying more. Somewhere between 2 and 5p a unit once over the threshold might be about right. People on prepayment meters who are struggling end up paying standing charges for days they weren’t able to afford any energy – that can’t be right.

  • James Fowler 15th May '22 - 10:08pm

    Agree @ Peter Martin. A generally lax monetary policy will just generate even more inflation, but we do need very carefully targeted help for the worst affected by price rises.

    If the BoE does not continue to raise interest rates it will be a laughing stock. There will be a run on the pound, followed by worse inflation than ever. Interest rates, the income tax threshold and benefits – excluding pensions – all need to rise considerably.

  • @Michael BG
    >How would the government ensure different prices are charged for energy from different sources?
    Simply by changing the market rules so energy companies expose to the public the functionality in the energy market systems.

    >How would they ensure that households on benefits and those who have low incomes are supplied the cheaper green electricity.
    By a combination of HMRC and DWP, it should be possible to readily identify the majority of low income households. They can be sent a code. Sign up can either be done directly or via agencies (third sector opportunity) – remember the centres set up for the Census?

    >What would they do about those on benefits or low incomes who use gas to cook with and to heat their homes and water? These people will not be able to afford new cookers and/or central heating systems.
    Well, much depends on the circumstances, however, there really is no reason why council and housing association housing shouldn’t already be appropriately equipped.
    The shortfall can be handled by a combination of reusing refurbished white goods (third-sector opportunity) and the green/energy efficiency tariff we all pay on our energy bills.

  • James Fowler,

    Indeed if the Bank of England held the Bank Rate at 1%, inflation would increase to a higher rate than if they increased it to 2.5%, about 2% higher. I am not convinced this would cause a run on the pound because economic growth would be higher (and this encourages people to hold sterling).

    In my article I suggested the government could have controlled inflation directly by freezing energy prices. In the comments I suggested the government could have frozen the price of oil as well. If these prices were frozen people would not have to pay higher prices and because the increases didn’t happen they wouldn’t feed into the inflation rate. Also because businesses would not pay more for their energy and petrol they would not need to pass these increased costs on by increasing their prices. This would also keep the inflation rate lower.

    I calculate that to provide someone earning more than £17,535pa with £993 (to cover the average increase in energy costs for those who pay via direct debit), by changing income tax, the government would need to increase the personal allowance by £4,965 to £17,535.

    Our policy of reinstalling the £20 a week uplift to Universal Credit and extending it to the legacy benefits would provide those whose only income is benefits with enough to cover the increase in energy prices.

  • Strictly speaking Inflation relates to an economic situation where an inflated money supply circulating in the economy is chasing a relatively fixed or declining volume of goods and services available for sale.
    Energy and Food Supply shocks caused by temporary or one-off price hikes may cause overall prices to increase to a new level for a time and then settle at that level with inflation returning to target.
    However, where a wage price spiral takes hold wages and prices continue to chase each other upwards producing an unstable position for businesses and consumers alike. Monetary policy seeks to achieve a balance between constraining borrowing for consumption while not impeding the business investment required to raise productivity and the associated productivity gains in a tight labour market.
    The National Institute of Economic and Social Research predict a recession in the second half of this year on top of the current cost of living crisis Sailing in Treacherous Seas. NIESR expect real incomes to decline. Their forecast suggests a decline of 2.4 per cent in 2022, accompanied by a small rise in unemployment in 2023 to 5.1 per cent. They still, however, expect private consumption growth of 4.7 per cent this year, with the household sector assumed to use some of the estimated £200 billion of savings accumulated under Covid-19 to smooth spending patterns and ensure that consumption falls by less than income.
    We should be strongly advocating the policy of reinstalling the £20 a week uplift to Universal Credit and extending it to the legacy benefits as well as maintaining the triple lock for state pensions.

  • James Fowler 16th May '22 - 8:57pm

    @ Michael BG. Thank you for the calculations! It would be good to see the income tax threshold rise by something like that. Benefits should also rise rapidly.

    I’d rather put more in people’s pockets than freeze prices. The problem with manipulating prices down is that investment and competition disappear. There are some essential things that there will never be effective demand for, but I’d rather see government intervene on the demand rather than the supply side.

  • Peter Martin,

    Thank you for letting me know that your second comment was rejected.

    Jenny Barnes,

    Indeed removing standing charges and having higher rates for high users would be good. Reducing the price for those on prepaid meters would be a good too. Reducing VAT to zero would be useful as well, but it benefits high users the most.

    Joe Bourke,

    As you suggest, energy price rises may be temporary. And most experts agree. This is why I think subsidising prices so they don’t increase is an acceptable policy because once the temporary cause of the price rise goes away the subsidy can end too.

    James Fowler,

    It is difficult to get the right amount of money into the right pockets. Subsidising prices for a short period ensures no person needs more money and no one is left out. The government has provided a loan to all bill payers. If it was a grant it would be similar to a subsidy on energy prices for consumers but not businesses etc. I wonder if everyone who pays for energy receives a council tax bill. Providing £993 to all council tax payers would almost get the right amount of money into all energy consumers’ pockets (not businesses etc.) unless they have a prepaid meter. However, subsidising energy prices for all users of energy would reduce inflation even more than just doing it for consumers as I have explained.

  • I don’t know how practical it would be, but I favour charging more for energy over a certain threshold, to keep the costs of essential use lower. That satisfies environmental considerations, while supporting people who are being careful with their money. There will be arguments about what the threshold should be, and how to make it fair for communal buildings with a single electricity bill etc.

    I’m by no means an expert on the economy, but it seems clear to me that having large chunks of society in poverty, where they struggle with the basics, and another chunk cutting back on all but the basics, will cause further, long-term damage for the economy. I support our policy on returning the £20 uplift and reducing VAT. Reducing VAT doesn’t just help to take the sting out of inflation for the consumer, but it will help keep many businesses viable, and therefore help keep a lot of people in work.

    A windfall tax on unexpected oil and gas profits seems such an easy win for the treasury, that I can only assume they are resistant because they are scared that the precedent will mean a windfall tax on those who made obscene profits from dodgy government PPE contracts will be next.

  • >Can the UK recession be avoided?
    Probably the wrong framing…
    An economic downturn was totally expected from Brexit – due to the re-orientation necessary to change from working within the EU to being outside the EU. We’ve also had Trump changing the trading relationship with China, COVID and lockdown and now Russia’s war against Ukraine.

    Given the top agenda items are: climate change, followed by environmental damage, mineral, energy, water, and food shortages ie. a perfect storm. A better framing and thus question to be asking is how can we utilise the slack/downturn/recession in our economy to better prepare ourselves and make our society and economy more sustainable.

  • @Fiona 17th May ’22 – 2:50pm….

    What threshold? What provision for young families, pensioners, the disabled, etc. all of whom need to stay warmer than out-to work younger people..
    As for why no ‘windfall tax’ (yet) I believe it has far more to do with the idea being from Labour/LibDems rather than anything else..BTW I expect that it will follow most of this government’s actions; deny, prevaricate, embrace as their own.idea.

  • @Expats – you raise some of the issues I had in mind when I said there would be arguments on how it would be set, but length limits for comments discourages detailed analysis.

    The point is that we want to target help with bills where it is needed whilst being environmentally responsible. I anticipate aiming for average bills to remain the same (before any additional help). Electricity would be cheaper below the threshold, and more expensive above it. That benefits poorer families who already spend less on energy than wealthy ones. If you really want to get into it, you could have series of thresholds, including a rate that’s the same as now.

    Adjustments to the thresholds could be made based on circumstances, but in an ideal world, pensions and benefits for people with disabilities would already reflect their need for additional heating.

    I remember Martin Lewis talking about the urgent need for action a couple of months ago, and giving views on options, including a cut to council tax. He described it as a blunt instrument, but at this point in time, blunt instruments that can be implemented quickly are better than sophisticated solutions that won’t be implemented for another year, that will only have an impact in the longer term.

  • Fiona,

    Earlier I wrote that “having higher rates for high users would be good”. I am not so sure. It is possible that because of the nature of their homes poor people have to use a high level of energy. Therefore charging more for high users would just make their situation worse.

    Indeed, having groups of people cutting back on their spending is bad for the economy unless the economy is overheating (and ours isn’t). If aggregate demand falls manufacturers produce less and reduce overtime and think about reducing their labour force. This reduces demand further and we get into a downward spiral.

    Roland,

    Brexit as you say meant that some re-orientation of our economy would be necessary. However, the government could take action to ensure this does not mean we go into recession. The lockdowns reduced the size of the economy. The economy is now larger than it was before Covid. Newsnight said that according to forecasts before March 2020, the economy would be 6% larger now if we hadn’t had Covid and the lockdowns. The cost of living crisis and the policies of the government and the Bank of England will result in a smaller economy. Alternative action would have ensured that the economy would end up larger than what is now forecast.

    It should not be a choice between economic growth and a sustainable economy, we should be able to have both.

  • Fiona 17th May ’22 – 5:12pm…………@Expats – but at this point in time, blunt instruments that can be implemented quickly are better than sophisticated solutions that won’t be implemented for another year, that will only have an impact in the longer term……….

    I couldn’t agree more. Delays will push those already struggling ‘over the edge’; into the hands of loan sharks, crime and suicides. I don’t know whether this government is just willfully uncaring or deliberately trying for a divided country of ‘haves and havenots’ (good old Victorian values)..
    However, seeing their callous actions over ‘Windrush immigrants’, deportations and Rwanda I’m beginning to believe the latter..

  • Jenny Barnes 18th May '22 - 1:35pm

    MBG “It should not be a choice between economic growth and a sustainable economy, we should be able to have both.”
    It would be nice to eat one’s cake and still have it, too. But it’s not going to happen. Economic growth on a finite planet hits limits.

    Thinking further about energy prices – this will be unpopular, I know, but the energy cap needs to be removed. It’s economic illiteracy. Probably the best course of action would be to renationalise a large part of the gas & electricity market.

  • @MBG “It should not be a choice between economic growth and a sustainable economy, we should be able to have both.”
    Depends where you draw the baseline for “growth” and what you determine is growth.
    There is growth in the environmental, green sector, however if we take electric cars as an example the sector shows every indication of being significantly smaller than the current ICE vehicle sector. So there will be lots of people with time on their hands, with the correct stimulus these people could have a better quality of life and consume less than they did prior to CoViD. Headline economic growth is overrated, the math’s in the calculation mean it will naturally trend towards zero, which is exactly what we have been seeing these past few decades.

    @Jenny – ” the energy cap needs to be removed. It’s economic illiteracy.”
    Agree, given the UK mostly sources its energy on the world market. However, what can be capped is the markup to cover operating costs, which are largely independent of the cost of energy feeding into the system.

  • Jenny Barnes,

    Resources are finite so logically economic growth should be finite too. However, this does not seem to be true, because of our ingenuity. I do not believe a political party could win a general election without supporting economic growth.

    Some markets should not be free and energy is one of them.

    Roland,

    I don’t see how “the math’s in the calculation mean it will naturally trend towards zero”.
    Economies naturally tend to go from economic growth to recession not move towards zero.

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