Prospects of the UK Economy in 2008 - Essay Example

11 Feb. 2008 Prospects of UK economy in 2008 The year 2007 was a year of surprises for the UK economy. The UK economy fared really well as per the market expectations. Comparing the forecasts made by the market analysts in December 2006 to the actual data available at the end of year 2007, the results are really surprising: the growth was stronger in 2007 than was expected. The growth of UK economy was expected to be 2.4% in 2007, surprisingly UK's GDP growth reached 3 at the end of 2007. The UK economy was able to make significant headway despite harsh market conditions. The oil prices were soaring and the sub prime crisis in the United States breaking out globally in august 2007 further worsened the conditions. The sub prime crisis meant the fall in the value of US dollar against most currencies of the world. The tentacles of subprime crises choked the progress of the UK economy to some extent and forced an interest rate cut. However with the expectation of the global economy to increase by 5% the UK markets expanded rapidly. Let us now compare the growth of UK economy with the other major economies of the world and discuss the various issues that affected the UK economy in 2007. We will also see the positive and negative issues that are now affecting the UK economy in 2008 and see whether the UK economy will continue its good run or struggle in 2008. Growth of UK economy vis--vis other major economies of the world In 2007, the growth in the emerging markets was stronger than expected and the growth in the developed countries was below the expected level. However, among the developed economies, UK was an exception recording a growth higher than the expected level. Growth in the UK economy was 3.1 % which is about 0.7 percentage point better than the expected growth. Growth in US economy was 2.2% against 2.3% predicted at the start of the year 2007. Growth is Japan was 1.8% while the expected growth was 2%. It is important to note that US and Japan are the largest economies of the world. UK and other EU economies have benefitted by the huge progress made by the emerging economies especially the oil exporting countries and countries in Asia. Growth in EU economy was 2.6% against the predicted level of 2.0%. Among the G7 economies, growth of UK economy has been strong and at the same time balanced. UK economy has performed strongly in 60 consecutive quarters. Issues that affected UK economy in 2007 In the middle of the year 2007, negative sentiments were running high in England and the UK economy showed signs of recession. Some analysts felt rumours about a possible recession were highly speculative as the growth in the UK economy was well above the target. Negative issues Although the UK economy's growth was well above target there were certain issues that raised concern. 1. Global credit market crisis: The break out of global credit market crisis in the second half of 2007 forced the US to slash its short term interest rates by 100 basic points. UK joined US in slashing the interest rate and made minor changes to its monetary policy. The credit market crisis also resulted in lower bond returns in spite of the strong economic growth and higher interest rates. During this crisis the banks suffered from lack of credit to fund the growing economy. 2. Fall of UK housing market: Worries about a possible downfall of UK housing market made recession a high possibility. The UK housing market experienced severe downfall of prices. The housing market also saw very few mortgage approvals and lending in the 2007. Very few mortgages were approved in UK because of the high rate of defaulters in US. The high default rate of borrower lend to the sub prime crisis in US. UK did not want a similar situation in its economy. 3. Recession in manufacturing industry: The manufacturing industry was already into its second year of recession. The manufacturing sector performed dismally bad in 2006. Experts believed that the manufacturing industry because of its poor show in 2006 would suffer from lack of funds in 2007. However, in 2007, manufacturing industry came out of recession. 4. Low savings ratio Low savings ratio means people in UK are borrowing more than what they are saving. The savings rate has fallen below zero in UK. Low savings rate are often good indicators of a possible recession. 5. Inflation In order to keep the inflation (rise in the price of products) under the target of 2% interest rates were increased. Rise in the interest rate made the repayment of loans a difficult task for money borrowers. Positive issues 1. Strong growth Despite the above factors the growth in the UK economy continued to be strong and balanced in the second half of the year 2007. The UK economic growth was well above the predicted level of 2.6 % at the end of the year. Strong economic growth also ensured an increase in mortgage lending. Such strong headway by an economy minimized the chances of a recession. 2. Equity market The equity markets continued its good performance globally especially in the developed economies. UK being a developed economy was able to reap good benefits from the equity markets and the UK companies were able to book good profits. 3. Overall growth The growth in the UK economy was not restricted to a particular sector. The economic growth was evenly distributed. The manufacturing sector which was in recession for the past two years performed significantly well in 2007 and emerged out of recession. The recovery by manufacturing sector sent out positive alarms in the UK economy which helped other industries like chemical, electronics and specialist instrument maker industries to grow significantly and earn profits. The services industry, however, continues to dominate the UK economic growth. 4. Growth of emerging economies Another positive issue that helped in the growth of UK economy was the growth of the emerging economies. The year 2007 saw a different trend. The emerging economies began to outperform developed economies in terms of growth and corporate earnings. Oil producing nations and Asian economies outperformed the largest economies of the world, US and Japan. Surprisingly UK and EU continued their strong performance. In fact UK's economy especially the manufacturing sector benefitted from the growth of emerging as the competitiveness among the exporters in UK improved. Growth in the EU economy also helped the UK exports as the EU accounts for some 55% of UK export sales. Let us now look at the prospects of UK economy in 2008. Will the UK economy prosper in 2008 as it did in the year 2007 or struggle in the year 2008 Let us now analyze both the positive and negative issues that might affect the UK economy in 2008. Reasons to be optimistic about the UK economy in 2008 1. Strong growth of world economy The world economy is expected to grow strongly in 2008 despite fears over a possible US recession. UK economy is expected to benefit from this growth as it did in the year 2007. The growth of UK economy has been positive ever since its last recession way back in 1992. The UK economy has been able to grow on the positive side for 60 consecutive quarters. This positive trend is expected to continue in fore coming quarters in the year 2008. 2. Stronger labour market One of the strong points that make us believe that the UK economy will prosper in 2008 is its strong labour market. The current labour market in UK has seen the highest level of employment and lowest unemployment rate since the 1970. The labour market is expected to get better with more immigrant skilled worker moving into UK. The earnings growth of labour market has remained low, but it has managed to be on the positive side. The positive aspect of earnings growth ensures that consumer spending remains positive and hence the market does not go into recession. 3. Government funds and company investments One of the positive inferences from the economic growth of UK in 2007 was the increase in the Government spending and increased investments from the companies. At the beginning of the year 2007, analysts believed the only cash flow into the market would be from Government funds as the manufacturing sector was in its second year of recession. Surprising the markets saw increased investments from corporate houses. The government spending increased by 1.7% and company investments went by around 7%. 4. Corporate sector may drive the economy of UK upwards in 2008 The profits made by the companies in UK are setting new records. One such example is the profits made by the Anglo-Dutch oil company Shell. This oil firm reported a profit of $27.56 billion which is record for a UK listed oil firm. The English economy has always been open for international trade and the combination of a weaker currency and fast economic growth has benefitted the companies in UK especially the exporters. The international trade is thus very important for the progress of UK economy. With emerging economies performing better than the expected level, chances of a recession in UK are bleak. Reasons to be pessimistic about the UK economy in 2008 Although the above factors negate the possibility of a recession in UK, we cannot be completely optimistic about the progress of UK economy in 2008. There are many risks in the UK economy which cannot be ignored. Problems UK economy may face in 2008 1. Downfall of house price Many analysts feel the house price in UK may come down significantly in 2008. This would mean a huge percentage decrease in consumer spending. 2. Global credit crunch The global credit crunch crisis had minuscule impact on the UK economy in the second half of 2007. However, many believe the full impact of the sub prime crisis in US is yet to be felt in UK markets. The chances of US entering recession are very high. If US economy enters into recession, the growth of UK economy might be severely hampered. 3. Sticky inflation Sticky inflation or stagflation is an undesirable situation when falling economic growth fails to control inflation. Signs of sticky inflation were prominent in the beginning of the year 2008. 4. High level of debt The savings ratio in UK is at an all time low this year. The level of consumer debt is also high, mainly due to rising house prices. Consumer spending is expected to hold the key to growth in 2008. However, such high levels of consumer debt are sending negative signals in the UK economy. 5. Current account deficit The current account deficit in UK is around 3 % of GDP. Although it is not as alarming as the account deficit in US (6% of GDP), it requires a readjustment in the long run. 6. Revenue from tax may come down The revenue from taxes might significantly come down if there is any slow down in the economic growth. The Government has already reached the borrowing level of 3 %. This borrowing spree by the government is considered as a negative signal. This is because Government is borrowing despite the economy being at the peak of economic cycle. The UK economy has done well in 2007. However, in 2008, UK economy faces many problems, both internal and external. The external problems like the global credit crunch crisis and slow down of international trade are out of its control. The internal problems like inflation and house prices collapses are becoming more and more prominent in 2008. Although the possibility of a recession appears bleak, the growth of UK economy is expected to come down. Global slow down and falling house prices are expected to be the causes for a possible slow down in economic growth. Another cause is the possibility of a recession in the US economy. Many experts feel the Government is being over ambitious about the projected tax revenues and they suggest that the Government should reconsider its policy. Experts feel UK economy should learn a lesson from the crisis in US economy and take corrective measures. Otherwise it is likely that the growth in 2008 will be below the expected level. Works cited Credit gal, Challenges before the UK economy in the New Year. January 2008. Financial affairs. 10 Feb. 2008. http://financialaffairs.blogspot.com/2008/01/challenges-before-uk-economy-in-new.html Lloyds TSB Financial Markets Economic Research Team, Prospects for UK economy in 2007 - challenging but better than in last 2 years. October 2006. Fxstreet- Economics weekly. 10 Feb. 2008. http://www.fxstreet.com/fundamental/analysis-reports/economics-weekly/2006-10-23.v02.html Pettinger. T. Forecast for UK Economy 2008. 10 Oct. 2007. Economics help. 11 Feb. 2008. http://www.economicshelp.org/2007/10/forecast-for-uk-economy-2008.html Pettinger, Richard. "Is a Recession Likely for UK Economy" 03 April 2007. EzineArticles. 10 February 2008. Sticky Inflation Forecast for UK economy. 30 Dec. 2007. Economics help. 10 Feb. 2008. http://www.economicshelp.org/blog/inflation/sticky-inflation-forecast-for-uk-economy/ Read More