Bank sees growing risk of double-dip recession

THE Bank of England has painted a bleak economic picture for the UK as it forecast a heightened risk of a double-dip recession and paved the way for another round of emergency measures.

Bank governor Sir Mervyn King sent a stark message to political leaders as he flagged up the unresolved eurozone debt crisis as the “single biggest risk” to the UK economy.

In its quarterly inflation report, the bank slashed its central, or most-likely, growth estimate to about 1 per cent for both 2011 and 2012 – but compared to previous forecasts the Bank’s projections reveal a greater chance of the economy shrinking in the first three quarters of 2012.

The forecasts assume the problems in the eurozone do not deepen, quantitative easing (QE) is maintained at current levels and interest rates stay at record lows.

The worsened prospects for the UK economy mean inflation is likely to fall far quicker than previously estimated, hitting the government’s 2 per cent target in the second half of next year before falling to as low as about 1.3 per cent in 2013.

The latest inflation figures yesterday showed that the rate of Consumer Price Index (CPI) inflation in the UK fell slightly to 5 per cent during October, down from a rate of 5.2 per cent the month before.

Sir Mervyn acknowledged that the UK faces a “difficult economic environment” given the problems in the eurozone and said that the outlook for growth of the world economy had got worse since August. “This is also true here in the United Kingdom, where activity could be broadly flat until the middle of next year,” Sir Mervyn said.

He said the problems surrounding the eurozone countries would continue to affect the UK, adding that the “uncertainty” would have “some potential impact” on business investment and household spending. “Since August, difficulties in Europe have continued to dominate. The worsening global problems, imbalances and lack of competitiveness remain. The move towards a more balanced economy is going to be long and arduous.”

The bank’s report backs the City’s view that interest rates will be kept on hold for the foreseeable future and another round of quantitative easing will be rolled out before February.

But some economists were still not convinced. Vicky Redwood, chief UK economist at Capital Economics, said: “Even the bank’s downgraded growth forecasts still look optimistic to us – we expect zero growth next year.”

And David Kern, chief economist at the British Chambers of Commerce, said: “The improvement in growth envisaged appears too strong.”

The Bank cited weak global growth – in particular in the eurozone – as one of the key developments which influenced its decision to boost QE by a further £75 billion last month, increasing its total asset purchases to £275bn.

The inflation report said: “Implementation of a credible and effective policy response in the euro area would help to reduce uncertainty and so support UK growth, but its absence poses the single biggest risk to domestic recovery.”

But Sir Mervyn said the prospect of an improvement overseas seems “remote”.

The Bank added that failure to meet the challenges in the euro area would have “significant implications” for the UK economy.

Howard Archer, chief UK and European economist at IHS Global Insight, said: “While the inflation report and Sir Mervyn King did not specifically use the ‘R’ word – recession – the implication is that this is a very real risk, particularly if events in the eurozone worsen and credit conditions tighten.”

But looking further ahead, the bank expects the economy to rapidly pick up to reach around 3.2 per cent gross domestic product growth in late 2013.

Sir Mervyn added: “There will be weakness in the economy over the next few quarters and although no-one can know what the outcome will be thereafter, we expect the economy to pick up.”

Looking at inflation, the Bank said the rate would slow as the impact of the VAT rise, a fall in energy and import prices and downward pressure from a slack in the labour markets.

Elsewhere, the Bank pointed towards the threat of a second credit crunch in the UK. The turmoil in stock markets – triggered by uncertainty over the eurozone and global economy – has affected banks’ access to funding. The Bank said if these strains persist, the supply of credit to businesses and households could be restricted.

A Treasury spokesman said: “The government is doing all it can to protect the UK economy and make sure that it remains a relative safe haven in the face of international instability and uncertainty.”