UK Economic Outlook: What will drive future growth?

25th November 2014

Richard Holt

Head of Global Cities Research

rholt@oxfordeconomics.com

1 Recent trends

Data revisions have ‘improved’ UK’s growth

92

94

96

98

100

102

104

2006 2007 2008 2009 2010 2011 2012 2013 2014

UK: GDP revisions , rebased Q1 2008 = 100

Source : Haver Analytics

New data

Old data

Business momentum across sectors

25

30

35

40

45

50

55

60

65

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

UK: Purchasing managers surveys, % balance

Source : CIPS/Markit

Construction activity

Manufacturingactivity

Services businessactivity

Demand is strong & well balanced (domestically)

-1.0

-0.5

0.0

0.5

1.0

1.5

Consumerspending

Investment Govt.consumption

Inventories Net trade

UK: Contributions to annual GDP growth Q2 2014, %pts

Source : Haver Analytics

Business

Residential

Government

2 Investment

Less need for catch up in business investment

70

75

80

85

90

95

100

105

110

2006 2007 2008 2009 2010 2011 2012 2013 2014

UK: Business investment revisionsRebased, Q1 2008 = 100

Source : Haver Analytics

New

Old

But corporate profitability looking good

-60

-40

-20

0

20

40

60

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Manufacturing Services

UK: British Chambers of Commerce survey -confidence in profitability, % balance

Source : Haver Analytics

So manufacturers (others) plan to invest

-60

-40

-20

0

20

40

60

2001 2003 2005 2007 2009 2011 2013

UK: Manufacturing profitability expectations and investment intentions, % balance

Source: Haver Analytics/BCC

Profit expectations

Plant/equipment investment intentions

Fixed investment growing quite fast this year

2013: up 3.2%

2014: up 8.5%

Then gradually slows to 4½% growth by 2018

3 Trade

-8

-6

-4

-2

0

2

4

6

1999 2001 2003 2005 2007 2009 2011 2013

Source : Oxford Economics/Haver Analytics

Eurozone: GDP, % year

France

Germany

Italy

The Eurozone recovery has stalled

China is slowing down

0

5

10

15

20

25

40

45

50

55

60

65

2008 2010 2012 2014

China: Industrial production and PMI survey% balance

Source : Oxford Economics/Haver Analytics

Industrial production (RHS)

HSBC PMI survey (LHS)

%, y/y

Those & other upsets are hurting UK exports

-50

-40

-30

-20

-10

0

10

20

30

40

1996 1998 2000 2002 2004 2006 2008 2010 2012 2014

Source: BCC

UK: British Chambers of Commerce export orders, % balance

Services

Manufacturing

Long-term view: China may continue to slow

-10

-5

0

5

10

15

20

1961 1969 1977 1985 1993 2001 2009

Korea, Taiwan and China compared, % year

Source : Oxford Economics/Haver Analytics

Taiwan 1951-2003

Korea 1961-2013

Source : Oxford Economics/Haver Analytics

China 1979-2013

World economy: moderate long-term growth

-4.0

-2.0

0.0

2.0

4.0

6.0

8.0

10.0

1996 2000 2004 2008 2012 2016 2020 2024

World: GDP growth %

Source : Oxford Economics

Developing Economies

Advanced Economies

Exports weak this year but improve next

Exports of goods & services 0.4% down this year in

real terms

2015 up 4.4%

Subsequent years 5% to 6% a year growth

4 Consumption

2014 real incomes driven by rising employment

-5

-4

-3

-2

-1

0

1

2

3

4

5

6

7

1998-07 2011 2012 2013 2014(f)

Social benefits

Wage inflation

Employmentgrowth

Other income

Income tax &NICs

Price inflation

UK: Decomposing real income growth, %pts

Source : Haver Analytics

-6%

-5%

-4%

-3%

-2%

-1%

0%

1%

2%

3%

4%

2008 2009 2010 2011 2012 2013 2014 2015

GDP

Employment

Productivity

UK: GDP, employment & productivity % growth

Source : Oxford Economics

In 2015 productivity gains will slow this down

Evidence on wages growth v mixed

-4

-3

-2

-1

0

1

2

3

-2

-1

0

1

2

3

4

5

6

7

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

UK: Different measures of wage growth, % year

Source : Bank of England

Differences from averages since 1998(number of standard deviations)

-4

-3

-2

-1

0

1

2

3

-2

-1

0

1

2

3

4

5

6

7

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Private sector AWE growth (LHS) IDS wage settlements (LHS)

National accounts (LHS) Agents' survey (RHS)

BCC survey (RHS) REC (RHS)

UK: Different measures of wage growth, % year

Source : Bank of England

Differences from averages since 1998(number of standard deviations)

-4

-3

-2

-1

0

1

2

3

-2

-1

0

1

2

3

4

5

6

7

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Private sector AWE growth (LHS) IDS wage settlements (LHS)

National accounts (LHS) Agents' survey (RHS)

BCC survey (RHS) REC (RHS)

UK: Different measures of wage growth, % year

Source : Bank of England

Differences from averages since 1998(number of standard deviations)

-4

-3

-2

-1

0

1

2

3

-2

-1

0

1

2

3

4

5

6

7

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Private sector AWE growth (LHS) IDS wage settlements (LHS)

National accounts (LHS) Agents' survey (RHS)

BCC survey (RHS) REC (RHS)

UK: Different measures of wage growth, % year

Source : Bank of England

Differences from averages since 1998(number of standard deviations)

-4

-3

-2

-1

0

1

2

3

-2

-1

0

1

2

3

4

5

6

7

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Private sector AWE growth (LHS) IDS wage settlements (LHS)

National accounts (LHS) Agents' survey (RHS)

BCC survey (RHS) REC (RHS)

UK: Different measures of wage growth, % year

Source : Bank of England

Differences from averages since 1998(number of standard deviations)

-4

-3

-2

-1

0

1

2

3

-2

-1

0

1

2

3

4

5

6

7

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Private sector AWE growth (LHS) IDS wage settlements (LHS)

National accounts (LHS) Agents' survey (RHS)

BCC survey (RHS) REC (RHS)

UK: Different measures of wage growth, % year

Source : Bank of England

Differences from averages since 1998(number of standard deviations)

But fundamentals should push wages up

-5

-4

-3

-2

-1

0

1

2

3

-4

-2

0

2

4

6

8

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

UK: Earnings growth & recruitment difficulties% year

Source : Haver Analytics

Average weekly earnings -private sector

(LHS)

BoE agents -recruitment difficulties

(RHS)

% balance

Meanwhile oil prices will help to keep inflation low

50

55

60

65

70

75

80

80

85

90

95

100

105

110

115

120

125

Jan-13 Apr-13 Jul-13 Oct-13 Jan-14 Apr-14 Jul-14 Oct-14

$ per barrel (LHS)

£ per barrel (RHS)

UK: Brent Crude oil price$ per barrel

Source : Haver Analytics

£ per barrel

So sustained real wage growth in prospect

-2

-1

0

1

2

3

4

5

6

2002 2004 2006 2008 2010 2012 2014 2016 2018

CPI inflation

Source: Oxford Economics

Average earnings

Forecast

UK: Earnings & inflation, % year

Steady not spectacular consumer spending rises

1.6% growth last year, 2.1% this year, then 2.3%, then 2.2%, 2.5%, 2.6%...

94

96

98

100

102

104

106

108

110

112

2013 2014 2015 2016 2017 2018

UK: Consumer spending (real), 2013=100

Source : Oxford Economics

5 Fiscal & monetary policies

2014/15: winners/losers from tax/benefit changes

-3

-2

-1

0

1

2

1 2 3 4 5 6 7 8 9 10 All

Direct tax Indirect tax Tax credits & benefits Overall

UK: Cumulative impact of all tax & benefit changes in 2014/15 as a % of 2014/15 income %pts

Source : HM TreasuryIncome decile

But big government spending cuts still to come

-4

-2

0

2

4

6

8

06-07 08-09 10-11 12-13 14-15 16-17 18-19

Source : Oxford Economics/HMT/OBR

UK: Departmental current spending 2006-07 to 2018-19

However, MPC remains dovish

Feb Mar Apr May Jun Jul Aug Sep Oct Nov

UK: MPC sentiment tracker

More dovish

Source : Oxford Economics

More hawkish

Forward guidance v2 launched

Dovish Inflation Report

Carney Mansion House speech & Miles

Times interview

Weale FT interview

Carney @ TSC 'unreliable boyfriend'

Hawkish July minutes & Carney Edinburgh

speech

Dovish Inflation Report

2 votes for a rate hike & Carney Sunday Times

interview

Haldane speech

September minutes

Very dovish Inflation Report

November minutes

So first interest rate hike a good way off

0

1

2

3

4

5

6

7

2000 2002 2004 2006 2008 2010 2012 2014 2016 2018

Source: Oxford Economics

UK: Nominal interest rates, %

Long rates

Short rates

Forecast

Government spending is going negative

Government consumption rises 1% this year, flat in 2015, then steadily falls by about 1% a year for several years at least

6 Fundamentals

-150,000

-100,000

-50,000

0

50,000

100,000

1980 1984 1988 1992 1996 2000 2004 2008 2012

Net Interest, profit and dividends

Transfers, net current account transfers

Current account

Trade balance - goods

Trade balance - services

Exports, £m

Source : ONS

Exports: huge reliance on net exports of services

Key export sectors

0

10

20

30

40

50

60

70

80

Services Machinery Chemicals Motorvehicles

UK: Exports of goods and services 2014, £ bn

Source : Oxford Economics/Haver Analytics

Financial services

ICT services

Professional, scientific and technical services

-40

-30

-20

-10

0

10

20

30

40

50

Jun-09 Jun-10 Jun-11 Jun-12 Jun-13 Jun-14

Source: LMC Automotive / Oxford Economics

France

Germany

Italy

UK

Motor vehicles: Car registrations3 month moving average, % year

European car sales revival adding to UK demand

Huge backlog of orders for airliners (& engines)

0

250

500

750

1000

1250

1500

1750

1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014

Airbus

Boeing

Source: Company reports / Oxford Economics

Airbus and Boeing: OrdersNumber of aircraft

But pharmaceutical sector struggling

0

200

400

600

800

1000

1200

1400

1600

1800

2007 2008 2009 2010 2011 2012 2013 2014

Turnover: Pharmaceutical products£mn, 3 month moving average

Source : Haver Analytics

Export sales

Total

Domestic sales

Competitiveness issues facing other chemicals

0

500

1000

1500

2000

2500

3000

3500

4000

4500

5000

2007 2008 2009 2010 2011 2012 2013 2014

Turnover: Chemicals ex. pharma£mn, 3 month moving average

Source : Haver Analytics

Export sales

Total

Domestic sales

Digital, professional & support services

-20

-15

-10

-5

0

5

10

15

20

25

1981 1985 1989 1993 1997 2001 2005 2009 2013

Information & communication

Professional, scientific & technical activities

Administrative & support activities

UK: GDP, % change y/y

Source : Oxford Economics

Europe48%

Americas28%

Asia16%

Oceania4%

Africa4%

UK: Services exports, % of total

Source : Oxford Economics/Haver Analytics

Services exports currently skewed towards USA

Europe57%

Americas18%

Asia19%

Oceania2%

Africa4%

UK: Goods exports, % of total

Source : Oxford Economics/Haver Analytics

China’s imports of services set to grow hugely

0

500000

1000000

1500000

2000000

2500000

3000000

3500000

4000000

2013 2018 2023 2028 2033 2038

China

Germany

USA

China, Germany & US imports services, $m

Source : Oxford Economics

Competition in the R&D space very intense

0 1 2 3 4 5

China 1996

UK

China 2012

US

Germany

Taiwan

Japan

Korea

World: R&D expenditures, % of GDP

Source : Oxford Economics/Haver Analytics

In the UK 2 regions (+ North West?) stand out

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

4.5

5.0

2000 2004 2008 2012

R&D spending by region 2000-2012, £bn

Source : ONS

East of England

South East

North West

7 Conclusions

Nothing is certain

But the broad pattern is likely to be…

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

1997-2007

2013 2014 2015 2016 2017 2018

Consumer spending Investment

Govt. consumption Inventories

Net trade

UK: Contributions to GDP growth, %pts

Source : Oxford Economics

Clearly, more exports would be nice to have

And a lot more R&D (and innovation generally)

UK forecast summary

2013 2014 2015 2016 2017 2018Domestic Demand 1.9 3.0 2.3 2.2 2.3 2.3

Private Consumption 1.6 2.1 2.3 2.2 2.5 2.6

Fixed Investment 3.2 8.5 6.2 5.9 5.5 4.3

Stockbuilding (% of GDP) 0.5 0.7 0.4 0.4 0.4 0.4

Government Consumption 0.7 1.0 0.2 -0.9 -1.5 -0.6

Exports of Goods and Services 0.5 -1.6 3.1 5.6 6.0 5.3

Imports of Goods and Services 0.5 -1.4 2.0 4.6 5.0 4.5

GDP 1.7 3.0 2.6 2.5 2.6 2.5

Industrial Production -0.2 2.3 1.2 1.5 1.5 1.3

CPI 2.6 1.5 1.1 1.8 2.0 2.0

Current Balance (% of GDP) -4.2 -4.7 -3.6 -2.8 -2.3 -1.8

Government Budget (% of GDP) -5.5 -5.8 -4.5 -3.3 -2.1 -1.0

Short-Term Interest Rates (%) 0.5 0.5 0.7 1.4 2.1 2.8

Long-Term Interest Rates (%) 2.5 2.7 2.7 3.1 3.5 4.0

Exchange Rate (US$ per £) 1.56 1.65 1.59 1.59 1.58 1.58

Exchange Rate (Euro per £) 1.18 1.24 1.29 1.31 1.32 1.33

Forecast for UK(Annual percentage changes unless specified)

UK Economic Outlook: What will drive future growth?

25th November 2014

rholt@oxfordeconomics.com