XpertHR economic commentary July 2012: Black clouds

UK economy shrank by 0.3% in first quarter of 2012
The UK economy remains in negative territory, meaning that the double-dip recession is ongoing.

The UK economy contracted by 0.3% in the first quarter of 2012. This is according to the latest revised estimate on growth in gross domestic product (GDP) from the Office for National Statistics (ONS).

Chancellor George Osborne blamed the UK economic situation on the eurozone crisis. Writing in the Telegraph, Osborne said:

[O]ur recovery - already facing powerful headwinds from high oil prices and the debt burden left behind by the boom years - is being killed off by the crisis on our doorstep. [... A] resolution of the eurozone crisis would do more than anything else to give our economy a boost.

However, the ILO argues that the austerity measures and tough labour market reforms that many countries (including the UK) have launched in response to the crisis are making things worse, not better.

Prospects for UK economic growth
So what chances are there of a recovery in growth in second half of 2012?

The preliminary estimate for growth in the second quarter of 2012 is published later this month (on Wednesday 25 July 2012). On balance, economic forecasters expect that a third consecutive quarter of negative growth is the most likely outcome, thereby sustaining the double-dip recession.

Economist David Blanchflower is dubious as to the theory that growth in Q2 2012 could benefit from an "Olympic bounce" from deferred Olympic ticket sales revenues, as he explained to me via Twitter last week.

Here is a round-up of recent UK growth forecasts:

• The British Chambers of Commerce (BCC) sees a high risk of the double-dip recession continuing: "Growth in Q2 2012 is likely to be zero, or even slightly negative, due to the additional bank holiday for the Diamond Jubilee. But UK GDP growth is set to improve from Q3 2012."
• NIESR: "The UK economy has ceased to contract, but economic activity remains very weak. With the economy stagnant, the negative output gap is likely to widen further. We expect the UK economy to remain broadly 'flat' over the next 6 months. While significant downside risks persist, we expect economic recovery to begin to take hold in 2013. [...] We do not expect output to pass its peak in early 2008 until 2014."
• RBS analyst Ross Walker says the manufacturing sector has suffered "a collapse [..] a huge decline" over recent months. Walker believes this will hit growth in the wider economy.
  

'The large black cloud of uncertainty'
The Coalition Government's economic agenda for the rest of 2012 was set out in Mervyn King's Mansion House speech in London on Thursday 14 June 2012.

What King described as "the paralysing effect of uncertainty" on the global economy was a key theme of his speech. King said:

[One] effect of the euro-area crisis has been to create a large black cloud of uncertainty hanging over not only the euro area but our economy too, and indeed the world economy as a whole. [...] The black cloud has dampened animal spirits so that businesses and households are battening down the hatches to prepare for the storms ahead. The result is that lower spending leads to lower incomes and a self-reinforcing weaker picture for growth.

King announced details of emergency measures intended to boost growth. The Telegraph describes these measures as "a £140 billion emergency scheme to try to avoid a second credit crunch caused by the ongoing chaos in the eurozone."

This comprises two key elements:

• A temporary "funding for lending" scheme to boost credit to banks (discussed on the FT's Alphaville blog here).
• The catchily-named Extended Collateral Term Repo Facility (further details of which can be found here).
  

The UK's ongoing demand deficiency
How likely is it that the measures set out by King will help jumpstart recovery?

The ongoing lack of demand in the economy could cause problems, argues Jeremy Warner:

One possible flaw is that the economy is so depressed that there may in fact be little demand for increased credit, making the scheme largely redundant before it even begins.

Indeed, this "demand deficiency" is the biggest threat to the UK economy, according to Larry Elliott.

CIPD criticises Coalition Government's 'deregulation drive'
As we noted last month, the Coalition Government argues that reducing the 'burden' of employment law on employers through radical reform is essential for economic recovery.

George Osborne took up this theme in his Mansion House speech.

Osborne hailed "more pro-business employment law" as one way in which "we have [...] made our whole economy a place that better supports businesses, wealth creation and new jobs."

However, the chorus of voices disagreeing with this stance continues to grow:

• The CIPD says: "We do not believe that a 'deregulation drive' will lead to employers creating more jobs, thus stimulating economic growth." (See Update 17 here)
• The Coalition Government's argument that making it easier for firms to hire and fire workers will aid recovery is not backed up by historical evidence, according to University of Cambridge Reader in the Political Economy of Development Ha-Joon Chang.
• Employment law considerations are not putting employers off hiring, argues Heather Stewart in the Guardian: "Firms are not hiring for two interlinked reasons: the crippling uncertainty of the eurozone crisis; and a severe lack of demand. Why hire staff if you've got no customers to sell to?"
  

As employment law specialist Darren Newman reports, Adrian Beecroft's controversial compensated no-fault dismissal proposals would appear to have met their "final death."

Despite this setback, the Coalition Government's radical programme of employment law reform is ongoing.

The Enterprise and Regulatory Reform Bill includes measures to reform the employment tribunal system:

• Barrister Anya Palmer argues that, if enacted, some proposals in the Enterprise and Regulatory Reform Bill would pave "the way for a major reduction in employment rights" in the future, which could effectively make unfair dismissal "worthless".
• Simpson Millar Partner Joy Drummond told MPs on the Enterprise and Regulatory Reform Bill committee warned that the Bill risks "laying traps" for employers. Drummond said: "[O]ne of my fears with this bill is that in trying to encourage small businesses to employ it will lay traps for unsuspecting employers."
  

Falling inflation is good news for recovery prospects
Recent economic news has not been entirely bleak.

Inflation continues to fall back rapidly, with the two headline measures of inflation now significantly below recent peak levels.

Falling food, fuel and commodities prices are driving inflation down, latest ONS data show:

• For a second consecutive month, consumer prices index (CPI) inflation came in within the Government's symmetrical target range of one percentage point either side of 2%. CPI rose by 2.8% in May 2012, down from 3% in April.=.
• Retail prices index (RPI) inflation rose by 3.1% over the 12 months to May 2012. This is down 0.4 percentage points from 3.5% a month ago. RPI is now 2.5 percentage points below the recent peak rate of 5.6%, which was recorded in September 2011.
  

Falling inflation is good news for recovery prospects, argues Larry Elliott:

High inflation has been the silent killer of growth for the past 18 months. While all the attention has been on the government's austerity measures, it has been the less obvious, but still very real, squeeze on consumer incomes caused by rising prices that has put the brakes on the economy.

Elliott notes that "provided wages do not fall in tandem with prices, consumers will see their money go a bit further." This could help slowly to boost demand. If this happens, "by the second half of 2013, rising real incomes should provide some support for the economy."

Inflation outlook: Deflation fears return?
Inflation looks set to continue to fall over the remainder of 2012.

But while falling inflation is good news for now, the possibility remains that it could fall too far. As noted back in February, "it may be that by the end of 2012, it's deflation, not inflation we'll be worrying about."

The Bank of England defines deflation as "a persistent fall in the general level of prices (such as CPI, RPI or the GDP deflator)."

Capital Economics UK Economist Samuel Tombs explains why deflation is a serious concern.

Tombs says that CPI could "fall to just 1% by next summer, half the Bank of England's 2% target, and stay there for a couple of years. We could even get deflation if the eurozone breaks up, plunging Britain into a deep recession."

• Click here for XpertHR's latest round-up of inflation forecasts.

Unemployment continues to fall
Another pocket of good news comes from the latest ONS labour market data release, which shows unemployment falling on some (but not all) key measures.

• The headline unemployment rate (on the ILO definition) fell for a third consecutive month, to 8.2% over the three months to April 2012. This was down from 8.4% in March.
• The ILO unemployment level was 2.61 million in March 2012, a fall of 51,000 on the preceding quarter.
• The youth unemployment rate ran at 21.9%, down from 22.5%.
• The number of people employed in the public sector "fell by 39,000 to reach 5.90 million, the lowest figure since March 2003."
• However, the claimant count unemployment measure showed an increase. ONS says: "The claimant count in May 2012 was 1.60 million, up 8,100 on the previous month and up 96,300 on a year earlier. The claimant count rate was 4.9%, unchanged on the previous month but up 0.3 percentage points from a year earlier.
  

Perhaps the most encouraging news from this release was that private sector job creation appears to be outpacing public sector job losses.

The New Statesman's Alex Hern comments:

The fabled 'rebalancing' appears to finally be upon us, with public sector employment shrinking by 39,000 but amply being made up for by an increase of 205,000 in the private sector.

It remains to be seen if this trend can be sustained.

Despite the recent falls, economic commentators remain convinced that UK unemployment will begin to rise again soon, and is unlikely to peak until 2013.

• See UK unemployment has yet to peak for XpertHR's latest round-up of UK unemployment forecasts.

Further quantitative easing seems all but inevitable
George Osborne described quantitative easing as "the last resort of desperate governments when all other policies have failed" while he was in opposition.

But with economic uncertainty rising, it seems that further quantitative easing (defined as "the economic term for allowing the Bank of England to print more money") is all but inevitable during the second half of 2012.

And it could arrive sooner rather than later.

The Bank of England Monetary Policy Committee (MPC) stuck to its well-established 'wait and see' approach at its June 2012 meeting, holding interest rates at their record low of 0.5% for a 40th consecutive month, and maintaining the value of the quantitative easing programme at £325 billion.

However, it appears possible that the MPC will vote at its next meeting (which takes place on 4 and 5 July 2012) to extend its programme of quantitative easing, possibly by £50 billion.

Sunday Times Economics Editor David Smith noted via Twitter that the latest fall in CPI inflation "increases [the] chance of more quantitative easing very soon."

Zero chance of an interest rate rise; but could rates be cut to zero?
Any rise in UK interest rates would appear all but impossible at this stage.

The earliest possibility of a rate rise is November 2016, according to the latest overview of market forecasts compiled by ThisIsMoney.co.uk. Were this prediction to prove accurate, interest rates would by that point have remained at rock bottom for just short of eight years.

However, a rate cut is possible.

Back in May 2012, the IMF urged the Coalition Government to consider a further rate cut as an emergency measure to promote recovery.

The MPC did just that.

The latest MPC minutes indicate that "the merits of a reduction in Bank Rate" were discussed at the June 2012 meeting.

Mervyn King this week raised the possibility that interest rates could be cut to 0% if the economic situation continues to worsen, the Evening Standard reports.

Pay freezes remain the norm in the public sector
The whole economy median pay award held at 2% over the three months to 31 May 2012, according to latest XpertHR analysis of pay trends (subscription required).

The median pay award in the private sector was worth 2.5% over this period.

However, the ongoing pay freeze in the public sector is pulling down the whole economy headline pay award.

XpertHR Pay and Benefits Editor Sheila Attwood comments:

The median basic pay award of 2% across the whole economy in the three months to the end of May 2012 is heavily influenced by the pattern of pay setting in the public sector during this period. [...] In the year to the end of May 2012 the median public-sector pay award remains at a pay freeze, the same level that XpertHR has recorded for every rolling year since September 2010.

Pay awards: 'The next industrial battleground'?
Pay awards look set to become an increasingly contentious issue over the latter half of 2012 - particularly in the public sector.

A number of unions are planning to take action on pay issues later this year:

• Unison, the UK's biggest public sector union, is serving "notice on the government that pay will be the next industrial battleground," the Guardian reports. It says that Unison "plans to co-ordinate action across schools, hospitals and local authorities - including strikes - if ministers do not halt a long-term pay freeze." Unison General Secretary Dave Prentis says: "Our demand is for decent pay. If we cannot win through negotiation we will fight to win it through strike action. We will smash the pay freeze."
• Len McCluskey of the Unite union promises "a long, drawn-out campaign involving - yes - industrial strike action. It will manifest itself in more disputes and I think it can only get worse."
• Pay is also expected to be a central issue of a TUC-organised mass demonstration in central London on Saturday 20 October 2012.
  

See also:

• XpertHR Private Sector Pay Forecast Benchmarker See how your organisation measures up against the latest pay forecast benchmarking data from XpertHR, and against latest expert inflation forecasts compiled by XpertHR (XpertHR subscription required).
• XpertHR Benchmarking Visit the XpertHR Benchmarking homepage to find out how to access data from a wide range of surveys covering most aspects of HR work and employment practice.
• XpertHR Salary Surveys XpertHR's salary surveys service provides access to top-quality market pay data.