Consumer Upturn in UK Sooner than Expected

I don’t claim to know United Kingdom very well but I do know a little bit about economics and I write this piece to assuage worries of my friends.

We know jolly-well the fifth largest economy in the world, the second largest economy in the Europe after Germany has deteriorated dramatically in the past 4 months and is already in a recession. Consumer spending growth collapsed under the weight of higher inflation, rising debt servicing costs and a fall-off in housing equity withdrawal and the deterioration in consumer finances are likely to continue in the next one or two quarters, as experts have suggested.

The Ernst & Young Item Club says the economy will shrink by 1% next year, but I do see some bright spots that perhaps, could be the key to turn-around in consumption growth.

Firstly, the policy backdrop has changed in both monetary and fiscal terms and supported by tumbling energy prices. As inflation declining, it helps to kick-start consumption as it allows Bank of England to further slash interest rates, hence lowering debt-servicing costs. Essentially, I expect borrowing would no longer be a drag on activity, unlike in 2008. Coupled with lower taxes (VAT rate to 15% from 17.5%), improved social benefits from the fiscal side, this will contribute to improvement in real consumer disposable income.

Secondly, the collapse in wholesale food and energy prices is beginning to be passed to consumers – obviously as petrol prices have fallen by 25% from their peak.

Thirdly, the RICS survey of chartered surveyors already showed a pick-up in enquiries for purchasing a home.

Fourthly, on one hand, I do expect employment to decline through 2009, but on the other hand, I do expect higher social security benefits to mitigate to a large degree the negative impact on consumer firepower of falling employment. For example, the government will pay now mortgage interest for mortgages up to ₤200,000 for the newly unemployed.

In short, my calculation shows that the fiscal boost is equivalent to 5% of nominal GDP, and infrastructure spend will give rise to boost construction jobs. So, be watchful for the sudden turn of UK-related market prices!