Recovery in jeopardy as Bank poised to slash growth forecast

THE Bank of England is this week expected to admit that growth over the next two years will be almost an entire percentage point lower than previously forecast as government austerity measures and weak demand threaten to derail the economic recovery.

More than 80 per cent of economists polled by Reuters expect governor Mervyn King to lower the bank's GDP growth forecasts for the next 18 months to 2.5 per cent from the current level of 3.4 per cent.

The 22 City experts surveyed also believe the bank will raise its inflation predictions on Wednesday as the consumer prices index (CPI) remains stubbornly above the monetary policy committee's (MPC) 2 per cent target.

Although inflation eased to 3.2 per cent in June from 3.4 per cent the previous month, it has stayed above 3 per cent since January. Economists fear it will continue to be a thorn in the MPC's side next year - particularly after the impending increase in VAT to 20 per cent.

As a consequence, households are expected to face a double squeeze over the next few years as high prices clash with spending cuts and public sector job losses.

Howard Archer, chief UK and European economist at IHS Global Insight, said King faces an unenviable task when he publishes the bank's latest quarterly inflation report on Wednesday.

"The BoE is likely to have had the unpleasant task of lowering its GDP growth forecasts but raising its consumer price inflation projections," he said. "This likely rise in the CPI forecast is not only expected to be due to the current stickiness of inflation but also due to the impact of VAT rising from 17.5 per cent to 20 per cent in January 2011."

Archer believes recent uncertain economic data, both from the UK economy and from across the Atlantic, is likely to persuade the bank to keep interest rates low for the foreseeable future. He says the MPC will also leave the door open to further quantitative easing in the event of an economic relapse.

While the economy has outperformed expectations in the first six months of this year - particularly during the second quarter - economists are concerned that the wheels will soon come off the recovery.

The pound, which has so far provided a vital boost to manufacturers, is gaining against foreign currencies while demand in most of Britain's key export markets looks set to weaken once more. Worse-than-expected US jobs data on Friday has sparked fears about the US economy in particular.

Jeremy Batstone-Carr, head of private client research, said households and investors should not be lulled into a false sense of security by recent bumper corporate results - particularly from the UK banking sector. He said: "It is quite clear when US Federal Reserve chairman Ben Bernanke describes the outlook as 'unusually uncertain' that there remains something fundamentally wrong with the underlying structure of Western developed economies that not even the hoopla associated with another round of blow-out Q2 company results can paper over."