Academic journal article National Institute Economic Review

The UK Economy

Academic journal article National Institute Economic Review

The UK Economy

Article excerpt

Section I. Recent Developments and Summary of the Forecast

In the last few months of 1993 the economic recovery in the UK continued to gather strength and become more broadly based. Signs of some improvement in demand are now apparent in virtually all sectors of the economy and capacity utilisation has begun to rise. Inflationary pressures have however remained modest and the outlook for 1994 is for a further year of steady, if unspectacular, growth with moderate inflation.

The principal uncertainty facing the economy at the present time is the extent to which the fiscal tightening announced in the two Budgets of 1993 will act to restrain the recovery. Our estimates, discussed in more detail in Section II below, suggest that over the next 12-18 months the effects on growth from the higher tax burden will be outweighed by the continuing feedthrough of the relaxation in monetary policy that has occurred since 1992. Thereafter, the impact of the Budget changes may prove predominant, and in the absence of any offsetting policy relaxation, the continuing effects of the forthcoming tax rises are likely to be observed for some considerable time to come.

Preliminary estimates suggest that GDP rose by 2 per cent in 1993, in line with our forecasts since the end of 1992. Recent business surveys point to further expansion during 1994. Business optimism rose sharply in the latest CBI Industrial Trends and Financial Services Surveys and the improved level of confidence apparent in the third quarter Chambers of Commerce Survey has been maintained. Perhaps more significantly, the CBI survey suggests that output exceeded manufactures' expectations in the fourth quarter of last year for the first time since the onset of the recession. The Survey also suggests that capacity utilisation in the manufacturing sector has already risen above its long-term average level, although it is less likely that this is so elsewhere in the economy, see Box A below.

The recovery gained momentum throughout last year, and in the fourth quarter output was some 2 1/2 per cent higher than a year earlier. Chart 1, which looks at output growth over the course of the last three recessions and subsequent recoveries indicates that the pace of the present recovery is both a little slower and less volatile than might have been expected. This is primarily due to the more subdued growth of domestic demand, which is presently estimated to have risen by a little over 1 1/2 per cent over the year to the third quarter of 1993, compared to growth in output of 2 per cent. In contrast, consumers' expenditure rose by 2 1/2 per cent over this period, in spite of the continued weakness of the housing market.

To a large extent the slow growth of domestic demand reflects the weakness of corporate expenditure, with investment volumes projected to remain broadly flat through 1993 and the stock-cycle only moderating a little. Our forecast suggests that both may contribute more strongly to the recovery over the coming months as companies become more confident about the underlying growth of the economy. The level of company profits is forecast to have risen by over 20 per cent in 1993, helped by strong productivity growth, and companies have taken advantage of the buoyant stock market to further restructure their balance sheets. Net capital issues by industrial and commercial companies (ICCs) in the first 11 months of 1993 totalled |pounds~15 billion (compared to |pounds~8.5 billion in 1992), while outstanding bank debt was repaid. The gearing ratio of industrial and commercial companies, defined as the ratio of net debt to market value, is estimated to have fallen from a high point of 19 1/2 per cent at onset of the recession to 11 1/4 per cent by the third quarter of 1993. As Chart 2 illustrates this is lower than at any time since 1987, immediately prior to the stock market crash. The forecast suggests that there will be a modest rise in the gearing ratio over the next two years since the present level of debt is estimated to be some 6 per cent below the long-term desired ratio. …

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