UK economic growth will flatten in 2015 as interest rate rises kick in, eating into real household income, Charles Davis, director at Centre for Economics and Business Research (CEBR) told the Citywire Private Client Manager Retreat (PCMR).
‘There is still a significant portion of people in the UK that are pretty leveraged. Even after years of deleveraging, when you look at the distribution of debt, there are concerns about how well households can cope with rising interest rates, and whether that will actually derail the consumer recovery and take some momentum out of the increases in discretionary income,’ he warned.
‘When you run scenarios of interest rates going up, it does start to soften the pace of increases in real incomes, and you start to see a bit of a challenge for the next couple of years.’
This could take out some of the momentum behind growth, he added, particularly as the UK enters a ‘mini-cycle’ with slower growth from 2015 onwards.
‘This year could well be the peak of the cycle, as we have grown this year above 3%, and that will come down next year especially as we get interest rate rises and start to see the government looking to do more to cut back the deficit.’
Davis said a large component of the 2013 recovery was an encouraging improvement in business investment however, which he expects to continue.
Real income growth could also be sustained by the housing market and lower inflation.
‘With a Bank of England that has more power through the Prudential Regulation Authority and Financial Policy Committee (FPC), we could potentially look at the FPC imposing caps on lending to valuation,’ he said, pointing to similar actions taken by authorities in Hong Kong when they tried to counter the rising flow of activity in its housing market.
‘Given the status of the labour market, I don’t see this story ending abruptly and expect house price rises will continue,’ he added.
Looking ahead, Davis believes inflation is not the biggest worry for consumers, highlighting a CEBR survey that showed only one in 10 consumers views inflation as a major threat. This, he said, could point to a better outlook for real incomes.
‘It has taken a really long time for that discretionary spending to recover at all. Consumers were far more cautious and careful about what they were doing [and] are far less willing to take on debt and just go for it with the more gung-ho approach that we saw pre-crisis.
‘No doubt it has been a very long and arduous recovery but we are now finally getting up to that better territory, because we are in a more benign economic environment.’