Waiting for Brexit, a no growth Spring Statement

Events, dear boy, events …

Harold Macmillan may never have uttered the quote attributed to him, but the Chancellor can be forgiven for reflecting on it as he stood up to deliver the Spring Statement. Surely there can never have been a more inconveniently scheduled fiscal event in the UK Parliament. It is obvious that the Brexit process makes planning difficult but in recent weeks concerns over the rise in knife crime, the resources available to schools and the squeeze on local Government have all come to the fore. In normal circumstances, the Spring Statement would offer the Chancellor an opportunity to outline plans to tackle these worries. The Chancellor provided an additional ￡100m for police overtime to tackle knife crime but left all other major decisions to the next Spending Review.

… in a slowing economy …

The Chancellor claimed that the UK economy is “remarkably robust” given the “cloud of uncertainty” created by Brexit. However, the Office for Budget Responsibility (OBR) downgraded its forecast for GDP growth in 2019 to 1.2% from the 1.6% presented in the October forecast. Even with the OBR’s slight upgrade to the forecast for 2021 through to 2023, it is clear that the UK economy is stuck in low growth mode. The increase in GDP is expected to fail to reach 2% for five more years, adding to three years of growth below this level already.

… that is getting weaker …

The growth forecast for the short term has been reduced because the OBR has downgraded its expectations for business investment compared to its October forecast. The OBR expects business investment to fall in 2019 and to only recover moderately to just over 2% for the next four years. Given the OBR’s forecasts are based on current Government policy towards Brexit -  meaning a withdrawal agreement and transition period will be agreed by March 29th - it appears that the OBR sees little sign of the “Brexit dividend” that has been suggested by the Chancellor. Quite the opposite: UK business investment is predicted to grow more slowly than that of its developed country peers throughout the forecast period.

The Chancellor also highlighted the remarkable performance of the UK labour market in recent years, with 3.5mnet new jobs created since 2010. However, even here, the outlook is less promising with 600,000 new jobs forecast by 2023. This suggests a slowing of the average rate of job creation in the next five years to around one third of the average rate since 2010, a major shift in the employment growth driven UK economic model.

The OBR does expect wage rises to increase as employment growth slows with annual increases of 3% or more for each of the next five years. This reflects some improvement in productivity, according to the OBR, together with, I suspect, possible shortages in some sectors of the labour market as EU immigration slows. These wage increases are likely to mitigate some of the impact on consumer spending growth from lower employment creation. However, the OBR only expects household spending growth of 1.1% in 2019, 1.5% in 2020 and 1.6% from 2021 to 2023 – a low rate of increase compared to historic trends.

… even without a “No Deal” …

The risks associated with a No Deal were laid out in very clear terms by the Chancellor. He dismissed the idea of a “managed” No Deal and identified major risks to the economy from a disorderly exit from the EU.

In this uncertain environment, the Chancellor made clear that, although the economy faces a challenging outlook, he was going to hold fire on future spending plans. This is despite the fact that the public finances have improved compared to the forecast in October. The Chancellor stated that he now has ￡26.4b of fiscal headroom for spending - compared to ￡15.4b in October - and that this will be available once Brexit has been agreed.

… with all roads leading one way.

For businesses, the Spring Statement will change very little. While it is reassuring to hear that public finances are improving, the promise of potentially ￡26.4b of future spending is unlikely to shift opinion, not least because the political context in which future spending decisions will be taken is extremely unclear. The reality is that low levels of economic growth, together with this huge political uncertainty, is likely to deter business investment and this will further limit the UK’s long-term rate of growth. Rising wages will help to offset some of the negative impact of slowing employment growth on consumer spending but this may also squeeze margins, further reducing the relative attractiveness of the UK for investment.

There is little sign that the macroeconomy will be a driver of corporate growth for the foreseeable future and the risks such as from Brexit and the global environment are to the downside. In this context, UK companies need to stress test their businesses to ensure they have the cash and processes in place to weather what could be a stormy year or two.

@MarkGregoryEY