Summary

On the state of the UK economy, Peter likens the pandemic’s impact as a ‘heart attack’, suggesting GDP to be erratically strong later this year but for this to fade quicker than most expect, with some give back in 2023⁄24. There is a misconception of UK and Global excess savings. In the UK the national savings rate has fallen 3%, as government dis-saving dominates household saving. While households will deplete their savings, the government will be looking to unwind its deficit at the same time. Internationally, UK is not in a strong saving position. Covid has significantly accelerated de-globalisation and protectionism to the disadvantage of the UK. Covid has exposed the fragility of the UK’s social contract and regional supply crisis, as well as a looming public health crisis in terms of residual issues created. The public finances may be more difficult to repair than outlined by HM Treasury, which asks the question to what level the Bank of England will absorb public debt or continue the monetary accommodation stance. In the UK, between 750,000 and 1.3m economic migrants have left, with about half of that number from London. Population growth has been a major contributor to economic growth in the last 10 years, however the UK population is falling. Peter noted the supply chain disruption that is being seen following a last-minute deal on Brexit, as well as another key risk and challenge to the UK economy, the social contract. In the UK, public spending has been increased more extravagantly to help reduce political damage, but with long-term consequences. The social contract is being rewritten, creating a permanently higher level of spending. Peter expressed his doubts over the merits of the Coronavirus Job Retention Scheme, costing £53bn and with no guarantee of keeping those jobs alive. The OBR predicts 1.3m people will never return to their jobs; however, this number is probably higher. Labour costs have also risen abruptly and the UK is sliding towards stagflation following the reopening of the economy. Peter suggests both gilts and Sterling will be in the firing line. Moving onto an inflationary outlook, the output gap analysis is an unreliable guide to inflation in times of severe monetary dislocation, as now. While many perceive the output gap to be negative, this does not preclude a surge in inflation. Furthermore, Peter does not believe the massive increase in money supply will automatically deliver higher inflation either. However, there is much greater risk of this when the economy reopens: the velocity of people will stimulate the velocity of an expanding money supply. It is expected that nominal income growth will track the growth of the broader measures of the money supply more closely in coming quarters. Looking at forecasts, all the ingredients necessary for higher inflation are present. While the Bank of England insists on financing the public deficit, an inflationary bias will remain. Inflation expectations of the public and business will become untethered. The combination of stubbornly high inflation and receding output in 2023⁄24 will be a major challenge for the UK authorities. The public’s perception of inflation is already stronger than its measured value, which will influence consumer behaviour. Peter concludes by saying the UK is in a worse predicament than portrayed by the Treasury or Bank of England. Long odds against the public sector deficit reduction in the face of the changes in public attitudes regarding the social contract. Bank of England is heavily compromised, and it does not have the authority to respond to elevated inflation. Benchmark gilts, currently 0.8%, are on a journey towards 2%. Sterling in the next couple of years could see a 10-15% downside with lots of foreign investment embedded in the UK that will be looking to exit.

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