Uncertainty is not an excuse for inertia

Another twist …

Difficult though it is to credit, the UK outlook has become even more uncertain since the EY ITEM Club Spring Forecast 2019. While Brexit has cast its shadow over the economy for some time, the imminent selection of a new Prime Minister, the consequences of the recent European elections, the risk of increased trade sanctions and the escalation of geopolitical tension have all added to the fog shrouding future developments.

Lack of clarity over the ultimate nature of Brexit remains the primary source of uncertainty for the UK economy. While the EY ITEM Club Summer Forecast 2019 maintains the GDP growth projections of 1.3% for 2019 and 1.5% for 2020, based on the assumption that the UK leaves the EU with a ‘deal’ on 31 October 2019, EY ITEM Club states that Brexit uncertainties have increased since they completed the Spring Forecast 2019 three months ago, largely due to political developments in the UK and that no deal, a deal at the end of October and further delays to Brexit are all realistic possibilities.

Increased uncertainty arises because these three outcomes are likely to lead to very different economic outcomes. According to EY ITEM Club, for 2020 this would mean growth in GDP of 1.5% with a deal, 1.3% with a delay to 31 March 2020 and 0.3% with no deal.

… for a challenged economy …

Increased uncertainty is never good but the impact is likely to be amplified due to the fragile state of the UK economy. While growth in Q1 2019 came in at the top end of expectations at 0.5% q/q, this was driven by a major lift from stockpiling and there appears to have been a considerable reaction in Q2 and EY ITEM Club suspect that GDP contracted marginally in the quarter, as consumers also took a breather after spending strongly in the first three months of 2020.

The slowing global outlook together with concerns over the UK’s future trading arrangements combined to create a negative contribution from trade to economic growth in the first quarter, while the recovery in business investment was only slight and not large enough to offset a year or more of declining activity.

Consumer spending should benefit from reasonable fundamentals through 2019, even though EY ITEM Club expects that real earnings growth in the near term will be modestly lower than the peak levels seen in early 2019 and that employment growth is expected to be slower. Consumer confidence has held up well but consumers have been relying on savings and debt to support their spending, and the need to repair their finances is likely to constrain any growth.

… meaning planning and flexibility are vital …

Overall, businesses should assume that growth in 2019 will be low by historical standards — 1.3% in 2019 in the central EY ITEM Club forecast — and unlikely to drive any significant increase in revenues. The outlook is uncertain, as well as challenging, with several plausible but very different outcomes possible.

Businesses should have a core plan based around low growth of 1.3% but recognising the possibility of significant fluctuations as UK politics, Brexit and the global environment all have the potential to create major shocks to activity at short notice. There will be a need to balance avoiding knee-jerk reactions with the ability to shift course if changes do look permanent.

In parallel, it will be important to continue to have plans to respond to a ‘no-deal’ situation. As we saw in the first quarter of 2019, there is a risk of an increase in stockpiling in the autumn if a ‘no-deal’ starts to appear likely. This will most probably be more challenging and disruptive than the previous effort as Christmas will place additional pressure on supply chains.

… and so is vision.

Evidence is mounting that the UK economy is in transition. EY’s 2019 UK Attractiveness Survey demonstrated how Brexit has impacted Foreign Direct investment (FDI) flows with significant reductions in manufacturing projects (35% down on 2018) and R&D investments (down 17%). With trade under pressure globally and Brexit likely to weaken the UK’s trading arrangements for a period, if not permanently, change is inevitable. On a more positive note, EY research on investors in both FDI and M&A continues to identify how strong the digital opportunity is in the UK and investment flows reflect this sentiment.

Whatever the short-term noise, businesses should now start thinking seriously about their medium to longer-term strategy for the UK and how this fits into their overall portfolio. Technology, demographics, climate change and global trade developments will all drive change in the UK, potentially — when we factor in Brexit — on a scale not seen for at least four decades. At the same time as ensuring that a business can ride out any short-term shocks, developing a vision for the future is essential.

Download the full forecast here