EEF blog

Just under a month a go I blogged about our forecasts for growth in manufacturing sectors in the year ahead. At the time I pointed out that Other Transport – which includes civil aviation – was likely to be one of the strongest performing sectors this year.

Civil aviation has benefited from strong demand from the Middle East in particular, and an article in today’s FT points out that there are sizeable orders backlogs which should keep production growing for some time to come.

However, the article goes on to mention concerns about the strength of supply chains in the sector, though this is a broader issue affecting several manufacturing sectors. Many suppliers were badly hit by the previous recession, and some have since struggled to ramp up production in response to stronger demand. There is also renewed caution related to the ongoing crisis in the Eurozone.

The government’s Advanced Manufacturing Supply Chain Initiative (AMSCI) is taking steps to help build supply chains and last week Vince Cable announced £90mn worth of funding for 32 manufacturers to help build domestic supply chains.

Ahead of tomorrow's GDP release for the first quarter of 2012, what do the most recent economic indicators suggest about the state of the UK Economy?

Today we publish Economic Prospects: 2012 - our review of the key challenges that lie ahead for the UK economy and manufacturing in the next twelve months.

Earlier today I blogged about our central forecast for growth in 2012. We expect the UK economy to grow by 1.0% on the back of improvements in investment and net trade. This comparatively weak figure reflects subdued consumer demand and government spending cuts.

There are significant uncertainties around this forecast. Most notably potential outcomes of the eurozone debacle. In this blog we reflect on possible best- and worst-case scenarios, and the possible results of these.

Our downside scenario assumes that default or breakup in the Eurozone causes world trade to follow a similar path to that which followed the Lehman crisis.

A significant drop in activity would further delay the recovery in business investment, which would remain flat through 2012.  This weaker scenario would see the UK enter a mild recession. Economic output would contract by 1.3% in 2012 and a further 0.6% in 2013. The economy would not return to 2007 levels of output until 2016 and the unemployment rate could rise above 10%.

Our upside scenario assumes a firm resolution to the Eurozone crisis that materially improves business and consumer confidence, leading to more normal levels of consumption and investment for a post-recession period.

In this scenario, growth in 2012 could reach 1.9%, and economic output would return to 2007 levels in 2013. We would expect unemployment to start falling back by the end of 2012, providing a further boost to spending. 

We all know that in the past few months the global economy has become markedly more volatile, and with it, the outlook for growth considerably less certain. But EEF's latest Manufacturing Outlook survey shows that manufacturers are still seeing growth. 

A balance of 12% of manufacturers reported increased output in the last three months, and a balance 4% of manufacturers reported increased orders. This is following on from ONS data that shows the sector has grown for eight consecutive quarters since the recession ended.

However, increased uncertainty, most notably emanating from the Eurozone, means that manufacturers are more wary in their outlook for the next quarter.

Looking ahead to the next three months the outlook is more gloomy. A flat output balance and a mildly negative orders balance (-1%) suggest that any growth will be muted in the next three months. As a result of this we have revised down our forecast for growth in manufacturing to 0.9% next year. We have also revised down our forecast for growth in the economy as a whole to 1.0%.

Manufacturers’ intentions to recruit and invest remain relatively upbeat, with a balance of 12% of companies saying they intended to increase capital expenditure in the coming year, and a balance of 5% stating that they were likely to take on new employees in the next three months. However, the weakening economic situation may yet cause companies to rein in these plans.

We will be blogging on other aspects of the survey later in the week.

After the Autumn Statement, Robert Chote gave a statement on the OBR’s view of the economic and fiscal outlook. Here is a summary of the key points.

Headline growth

The OBR expects the UK economy to grow 0.9% this year, and 0.7% next year, with most of next year’s growth occurring in the second half. Their projections suggest a roughly 1-in-3 chance that there UK will see a contraction over at least one quarter.

The productive capacity (and hence potential long-term growth rate) of the UK economy is lower than was previously thought. This means that by 2016 the economy will be about 3.5% smaller than the OBR thought in March.

Debt and the deficit

Weaker growth has implications for the government’s fiscal position. More of the deficit can be seen as structural, not cyclical (meaning there is further to go to reduce the targeted structural deficit).

The date the government will meet the fiscal mandate has been pushed back. There will be more real terms cuts to come beyond this spending review period. These cuts are, as-yet, unquantified, which means there will be more cuts for that the next government must make if the fiscal mandate is to be met.

Rebalancing

Firms have less cash available for investment than was previously thought, and tight credit conditions may be constraining the ability of the economy to reallocate resources to more productive areas

The OBR still expects rebalancing to happen: net trade and business investment are expected to be the sources of growth. However, the OBR’s forecasts for both of these have weakened.

Euro area

The OBR – like the Bank of England – did not quantify the potential risks of any sort of Eurozone “meltdown” though Chote did comment that there were three general ways in which the UK economy could be affected: reduced trade, credit tightening, and some impact (which could be positive or negative) on the government’s borrowing costs.

Labour market

Public sector job losses are expected to reach 710,000 compared with the 400,000 forecast in March.

Chote said that he thought that the youth jobs scheme would make little difference to overall employment levels, with some older workers being displaced by younger workers.

Tomorrow morning ONS will release the figure for CPI annual inflation in September. CPI inflation is widely expected to come in at over 5%, as energy price rises start to hit consumers.

As our forecasts show, this should be the peak for inflation, and recent comments from the Governor of the Bank of England suggest that inflation is now likely to fall below its 2.0% target in the medium term.

CPI inflation likely to edge over 5% in September, before falling back
Forecasts for annual % change in consumer price index  

In interviews following the bank’s latest interest rate decision, the Governor said he believed that the rate of inflation should fall back as temporary factors such of the VAT rise fall out of the measure, and weaknesses in the UK and global economy continue to weigh on demand.

There are still upside risks to inflation, though, particularly if increased inflation expectations begin to feed through to pay settlements, but the minutes from September’s MPC meeting suggest that this is less of a concern while the economy remains weak.

What to watch:

• There will be more information on the MPC’s latest thinking on Wednesday, when the minutes from the October meeting are released.
• We will also be releasing our Pay Settlements survey this week, which will give an indication as to whether industry is being affected by higher wage expectations (see last month’s press release).