The Economy Is Contracting - What Next?

25/07/2016 16:46 | Updated 25 July 2016

It's now looking pretty likely that the shock to the system that came from the Brexit vote is causing an economic contraction. The questions are whether it is a short-lived wide-eyed moment that will dissipate over the next few months, or whether it becomes entrenched.

Last week we saw the first indication that consumers were severely rattled. GfK's tracker poll showed the sharpest single drop in consumer confidence since their series began (in 1994), with the biggest falls in Scotland, the North, those on lower incomes and, separately, "Remain" voters.

On Tuesday the IMF downgraded its forecast for UK growth in 2017 from 2.2% to 1.3% saying Brexit had "thrown a spanner in the works". The EY Item Club forecast, that claims to mirror the Treasury's own model, was more drastic, cutting growth for next year from 2.6% to a mere 0.4%.

And yesterday, we had clear evidence from the IHS Markit PMI index that the economy is currently shrinking - although it will take several months for this data to be official, as the quarter three GDP figures wont be available until the end of the year.

The key question is if this is a short-term or a long-term effect. Ipsos Mori this week suggested this gloom might be time-limited: their results were that although people thought Brexit would hold the economy back in the next few years, it would strengthen it in the long term.

It could be that the data that is coming out now is no more than proof that we were all a bit shaken up by the shock of the EU referendum result. The underlying cyclical position of the economy is not bad, and as the months pass we might decide to go back to business as usual. Or - this could be the beginning of a more sustained downturn, not because the terms of our trade have changed yet, but simply because consumers and businesses alike are worried. And worry is the main reason why companies don't invest, and consumers don't make discretionary purchases.

The problem is that we wont know which it is until it is too late. Ideally the government needs to do something now to cheer us up about our future prospects, and reduce the risk that the economic shock we have experienced becomes a more entrenched worry.

Comments

CONVERSATIONS