Deloitte Economics Monitor

Uncertain outlook for growth

Central banks have been responding to above-target inflation with forceful rate rises. The US Federal Reserve, the European Central Bank and the Bank of England have all hiked interest rates to levels not seen since before the global financial crisis. The effect of monetary policy often operates with long lags, creating significant headwinds to growth for these major economies.

The US dollar had strengthened substantially since the middle of 2021 but has depreciated by over 7% since mid-October against a weighted basket of the currencies of the US’ trading partners. This reflects that investors’ expectations for further interest rate hikes have moderated. The fall in the strength of the greenback will bring some respite to emerging markets who have debts denominated in dollars and to commodities importers who buy energy and raw materials that are priced in dollars.

Global growth fears weigh on commodity prices

The price of copper collapsed in 2022 as fears of a global recession rose. However, since the end of last year it has staged a recovery. China’s decision to drop its zero-covid policy has raised expectations that the reopening of world’s second-largest economy will stoke demand for a range of commodities including copper.

European gas prices have fallen significantly over the last month, reflecting a better-than-hoped for reduction in gas demand (EU27 gas demand was down 23% in November compared to the previous year), helped by unusually mild weather.

The significant risk is now sourcing sufficient gas supplies for the winter of 2023/24. Europe turned to imports of LNG by ship to make up the shortfall in Russian gas deliveries last year. This year, with a reopening China increasingly hungry for energy and little prospect of much gas from Russia, Europe may struggle to source sufficient supplies of LNG.

Markets hopeful that inflation has peaked

Equity markets began to recover some of their losses in final quarter of 2022 and have had a strong start to 2023. Growing hope that inflation has peaked has cheered investors. The Bank of England raised interest rates again in December by 0.5 percentage points from 3.0% to 3.5% in a renewed bid to bring soaring inflation under control. Yields on UK government bonds soared in the aftermath of the mini-budget but have since fallen back.

Inflation as measured by consumer price indices appears to have peaked in the US, the UK and the euro area. In the US, inflation has been falling since a peak in June 2022. While a peak in inflation will bring some respite for central banks, the current rates being seen remain far above their 2.0% targets.

Higher global energy prices in the wake of invasion of Ukraine have caused domestic gas/electricity costs and petrol/diesel costs to increase far faster than the headline rate of inflation. The rising cost of food has led to concerns over the vulnerability of low-income households. Together these items account for 52% of the total increase in UK prices seen in the year to December. As 2023 progresses, the comparison period from 12 months ago for inflation will increasingly reflect higher energy prices, helping to lower the headline rate of inflation.

Shipping costs, as measured by Freightos Baltic Index, have fallen over 90% since peaking in 2021 by some measures. The fall reflects the unclogging of global supply chains and moderating consumer demand for goods. An easing of supply chain disruption should help abate some inflationary pressures.

Reports from industry show a decline in backlogs of work and order books in the UK, euro area and US. It would appear that the global manufacturing boom seen in the aftermath of the pandemic has drawn to close.

UK jobs market appears to have peaked

GDP grew by 0.1% from October to November, in part due a rise in consumer spending that coincided with the FIFA World Cup. The UK economy is now 0.3% smaller than on the eve of the pandemic and around 0.7% smaller than its peak in May 2022.

Vacancies continued to decline in the three months to November, standing at 1.161m, suggesting the UK labour market is losing momentum. The unemployment rate rose by 0.2 percentage points to 3.7% in the three months to November but remains close to the lowest level recorded since 1974. The number of payrolled employees rose to a record 29.9m in December.

UK regular wages are failing to keep pace with inflation, squeezing household incomes for many.

Rising prices have damaged UK consumers’ confidence, which remains close to its lowest level since records began in 1996.

Households face cash squeeze

UK fiscal watchdog The Office for Budget Responsibility published its economic forecasts alongside the UK government’s Autumn Statement. Notably, it forecast a record contraction in household disposable incomes per person in both this fiscal year (2022-23) and next (2023-24). For many people, this will feel like a deeper downturn than was seen during the global financial crisis.

The pressure on consumers is increasingly being seen in housing market data in the UK. Estimates from Halifax and Nationwide suggest that average house prices have been falling in recent months while surveys suggest that new buyer inquiries have fallen sharply.