Prospects for the UK economy.

Kirby, Simon ; Barrell, Ray ; Whitworth, Rachel 等

Introduction

The performance of the UK economy was surprisingly weak in the final three months of 2010. The Office for National Statistics (ONS) preliminary estimate of GDP suggests the economy contracted by 0.5 per cent in the quarter. Much of this can be attributed to the exceptionally bad weather in the weeks before the Christmas holidays. But even when this effect is excluded UK economic growth is estimated to have stalled. It is important to gauge the signal in this slowdown, because if it is continued it will affect Bank of England decision making and strengthen the case for restructuring and retiming the fiscal consolidation that is underway. The composition of growth is important in this re-evaluation of prospects. While one would expect the construction sector to be hampered by adverse weather, the contraction in services output was more surprising.

The National Institute's estimate of monthly GDP in January suggested that growth would be positive in the fourth quarter. The 1.0 percentage point error in this case is large. The poor performance of the monthly model reflects its dependence on data for the industrial production side of the economy, which are more timely than estimates for the service sector. The ONS's preliminary estimate is based on little data for the final month of last year (which is when the adverse weather struck) and the estimate will undergo some revision as more information becomes available. However, it is unlikely that this contraction will disappear in future data revisions.

It remains to be seen how much of the lost output due to adverse weather is recovered in the first quarter of this year. In the absence of further adverse weather, we expect to see a return to growth in the first quarter of this year (see figure 1), with the majority of the temporary loss being recovered. This rebound is liable to flatter the 'underlying' economic performance of the UK. Indeed the magnitude of the effect of the weather at the end of last year significantly reduces the probability of the UK economy recording a further contraction in the first quarter of this year, although the average rate of growth across the two quarters is expected to be a little over 0.1 per cent per quarter.

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The outlook for economic growth over the next couple of years is relatively subdued, due to weak domestic demand growth. Falling real incomes and falling real house prices are expected to keep consumer spending depressed. The Office for Budget Responsibility in November 2010 (and based on Spending Review 2010), suggested that a significant retrenchment would start this year. Gross fixed capital formation will, however, support domestic demand growth in the next couple of years. The government's plan suggests that government investment will fall sharply over the coming years. Alongside this, the turnaround in the stock cycle has already been surprisingly fast, suggesting that stockbuilding will add little to the growth in demand this year. Private sector investment is expected to raise overall domestic demand over the next couple of years. Overall, we expect domestic demand to grow by 0.4 per cent per annum this year and next. GDP growth is expected to be much higher, at 1.5 per cent this year and 1.8 per cent in 2012, with a strong contribution from net exports.

Our forecast for GDP growth in 2011 involves a downward revision from our October Review (down from 1.6 per cent). This reflects in part the base effect from the contraction in GDP at the end of last year. However, more recent events have also shifted the outlook for economic growth. Oil prices are around $18 a barrel higher than in our October forecast. Forecasts based on futures markets suggest the shift in the price of oil is permanent. As discussed in Barrell and Kirby (2008), a permanent rise in oil prices depresses GDP growth and raises inflation in oil consuming countries. Simulations using our global econometric model NiGEM (reported in Barrell, Delannoy and Holland in this Review) suggest that the recent shift in oil prices will depress GDP growth by around 0.1 percentage point per annum over the next five years, with perhaps twice the average effect appearing in 2011. As a consequence of the rise in oil prices, the rate of inflation is expected to increase by over 1/2 percentage point this year, with more modest effects in 2012 and 2013. The fall in the sterling- dollar exchange rate means the oil price has almost returned to its 2008 peak in sterling terms.

The recent performance of the UK labour market has been 'better' than in previous downturns. Holland et al. (2009) and (2010) suggest that this has much to do with the downward adjustment of real wages as unemployment rose. Indeed, between the end of 2009 and October 2010, over 200,000 jobs, net, have been created. Over 97 per cent of the jobs that have been created are part-time. The proportion of those employed who are working part-time because they cannot obtain full-time work has reached a record of 4 per cent (1.16 million people). As a consequence average hours worked in the economy fell sharply over the course of the recession and through the course of the recovery to date. Going forward we assume that employers will raise their demand for labour through increases in the working hours of those currently employed, rather than for further net job creation. We expect unemployment to rise through much of 2011, peaking at 8.8 per cent or 2.8 million in the third quarter of the year. We do expect the unemployment rate to fall back over the period from 2012 but, as Barrell and Kirby discuss in this Review, we expect the rate of unemployment to settle around 1 percentage point higher than in the preceding decade.

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Future exchange rates are assumed to follow the path implied by uncovered interest rate parity. Given the global nature of the projected monetary policy tightening, a noticeable appreciation in sterling over the next five years is unlikely. By 2015 the average sterling effective exchange rate is still expected to be around 20 per cent below the level of 2007. Recent concerns about inflation have prompted financial markets to expect earlier increases in interest rates than had previously been expected, putting some upward pressure on sterling at the turn of the year. We assume that this modest shift in the UK monetary stance relative to the US and Euro Area has been fully priced into currency markets.

The rate of CPI Inflation reached 3.7 per cent per annum in December 2010, around 0.4 percentage point higher than anticipated three months previously. In the near term we expect to see the rate of inflation rise even further (see figure 2). As noted above, much of the increase in our forecast for inflation this year is due to movements in the oil price. Given the announcement of the increase in VAT this year in June's Emergency Budget, the rate of inflation this year was always going to be significantly above target. Our forecast for inflation assumes 100 per cent pass-through for the standard rate of VAT. While evidence (Pike et al., 2009) suggests that the temporary reduction in December 2008 was only partially passed on, it does not follow that we should assume a symmetric response when VAT increases permanently. (1) Indeed, evidence from the Bank of England's Agents Summary of Business Conditions for this January suggests that 84 per cent of respondents expect to fully pass on the increase in VAT, with a further 11 per cent expecting to pass on much of the increase.

As figure 2 shows, we expect the rate of inflation to fall back sharply next year as the upward pressure of these temporary factors drops out of the inflation rate calculation and spare capacity. Figure 2 presents the 80, 85 and 90 per cent confidence intervals around our forecast for CPI inflation. These bounds have been derived from stochastic simulations on our global econometric model, NiGEM. By the middle of 2011 there is a 10 per cent chance that the rate of inflation will be at 5 per cent or higher. The chance of inflation moving below 3 per cent this year is less than 1 in 10. Given that the rate of inflation is expected to fall below target in 2012, the weight of probability is that the inflation rate will be below target throughout 2012.

Prior to the release of the preliminary estimate of GDP, yield curves implied that financial markets expected three increases in Bank Rate by the end of this year. The January 2011 and October 2010 yield curves are plotted in figure 3. We assume two rather than three increases in Bank Rate by the end of this year as output growth looks weak. The difference between the yield curves of 17 January and the one used in our October forecast is 25 basis points by the end of this year, rising to 125 basis points by the end of next year. Even when assuming a forward-looking world the effect on the economy from this difference is relatively muted. In our current forecast the rate of inflation is approximately 0.2 percentage point lower this year than it would have been with the yield curve from October, offsetting one third of the increase in inflation induced by oil price changes. Additionally, GDP growth is approximately 0.1 percentage points lower than it otherwise would have been. Given that it takes up to two years for the full effects of interest rates to feed through the economy, aggressively raising interest rates in the near term might be unwise.

A case for a tighter monetary stance could be made if inflation expectations suggested their anchor had become dislodged. While household inflation expectations have risen throughout the course of last year (see figure A1), wage growth remains muted (see figure 4), with real wages continuing to fall. Currently, inflation expectations in financial markets seem to be contained. In the most recent minutes of their monthly meeting, the MPC have already indicated that the prospect of drifting inflation expectations is a concern, with two members calling for a quarter point rise. However, we would expect the MPC to maintain the monetary policy status quo until it is clear that growth has resumed.

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Earnings and prices

The latest inflation figures show the annual rate of CPI inflation rose to 3.7 per cent in December 2010, up from 3.3 per cent in November. For the whole of 2010 the rate of CPI inflation was a percentage point or more above the target of 2 per cent. The Office for National Statistics (ONS) notes that the December increase in CPI is chiefly attributable to rising energy and food prices, as well as an increase in air transport fares (an indirect effect of rising energy prices, but with a small weight). These are cost-push inflationary pressures in contrast to the demand-pull factors which are currently exerting downward pressure on price inflation due to the amount of spare capacity in the economy. However, much of the upward pressure on consumer price inflation last year was due to the increase in VAT at the start of last year.

Excluding indirect taxes from the calculation of inflation gives a rate between 1.4-2 per cent per annum for the whole of 2010. While the assumption of 100 per cent pass-through from the VAT increase might not be valid at the start of the year, we would expect the pass-through to come close to this as the year progressed. In other words, underlying inflationary pressures were significantly less than the headline figures suggested.

However, even excluding indirect taxes, inflation picked up at the end of last year. Excluding indirect taxes, the rate of inflation increased from 1.4 per cent per annum in July to 2 per cent in December 2010. Oil in particular may explain much of the upward trend in inflation at the end of 2010, as the soaring prices of crude oil will have fed into the UK inflation rate through oil derivative products such as gas and petrol. Such products constitute a large proportion of the costs in two of the categories noted above--air transport and energy--but will also increase costs of other transportation, motoring expenditure, and fuels used for household energy consumption. Liquid fuels prices, for instance, saw an increase of 48.7 per cent from a year ago. Oil prices have been trending upwards steeply for the past couple of months and passed $90 per barrel in December-- prices not seen since 2008. As these are spot prices, their feed-through into inflation figures is lagged. Oil prices have continued to rise in December and January, which will exert upward pressure on inflation into January and February this year.

Reflecting the energy and food price trends, our CPI inflation forecasts have been revised upwards. We expect the rate of inflation to increase from 3.3 per cent in 2010 to 3.8 per cent in 2011. As figure 2 shows, there is a risk that inflation could rise even further than this. Certainly, further increases in the oil price above what we currently expect would push the rate of inflation even higher. However, the rate of inflation will be kept higher due to the increase in VAT at the start of this year. With no plans for further increases in VAT, the rate of inflation is expected to fall sharply next year. We forecast annual CPI inflation to fall to 1.8 per cent in 2012 and to around the 2 per cent target in the medium term.

Despite the recent inflationary pressures, there is no suggestion of a resulting wage-price spiral and, indeed, the downward pressure on real wages seen up to the summer of 2010 has remained a key factor in softening the impact of the recession on unemployment (Holland et al., 2009). Figure 4 shows public and private sector (regular) pay from the Average Weekly Earnings series. Since the start of 2009, public sector pay was more robust than private sector pay, which plummeted over this period. This difference may be partly related to the multi-year pay settlements in the public sector. However the decline in public sector pay, though more gradual, was sustained for longer, and has only started to rise again in recent months. Part of the government's fiscal consolidation plan includes a public sector pay freeze, which should, in theory, reduce the growth rate of public sector pay. However, Bird (2010) suggests that numerous factors affecting Average Weekly Earnings are actually likely to place upward pressure on public sector pay growth. Such factors include the 250 [pounds sterling] annual pay rise for those earning less than 21,000 [pounds sterling], multi-year pay deals, inclusion of banks in the public sector, and changes in the composition of public sector employment.

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Demand

Domestic demand was robust through the first half of 2010, and this continued into quarter three as growth remained at around 0.8 per cent. However, using the ONS's preliminary estimate of GDP, we estimate that domestic demand declined by 0.5 per cent in the final quarter of last year.

We can look at the components of GDP in order to understand what is driving these dynamics. The basic GDP accounting identity, comprising consumption, capital expenditure, government expenditure and net exports, can be roughly equated to domestic plus external demand. Figure 5 illustrates these different components in levels terms since the pre-recession peak in GDP, in the first quarter of 2008. Government consumption increased until mid-2010, reflecting efforts to boost the economy through fiscal stimulus, but began to decline through the second half of that year. Private consumption clearly fell throughout 2008 and 2009, but began to recover thereafter. Consumer spending remains well below its pre-recession peak in 2008Q1. Our forecast is for consumption to remain at around this level throughout 2011, and only in 2014 will it reach its pre-recession peak.

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Gross fixed investment declined steeply throughout 2008 and 2009, but began to recover gradually from the end of 2009. However, the volume of gross fixed investment remains 20 per cent below its pre-crisis peak. The plans for the volume of government investment, as laid out in the Office for Budget Responsibility's November Forecast, suggest that government investment will decline over the next five years. With regard to private sector investment, we would expect these volumes to expand over the coming years. Indeed business investment is still 15 per cent below its pre-crisis level (as defined by the peak in GDP). However, the current environment is not as conducive to investment growth as the period prior to the recession, due to the re-pricing of risk and corresponding rise in the user cost of capital. We expect business investment to reach its pre-crisis levels in 2014, and housing investment in 2015. In the short term a lack of bank credit, especially for SMEs, poses a downside risk for business investment growth.

The contribution of net trade to GDP growth was negative in the third quarter of last year. Trade data for the period to November 2010 suggests that strengthening exports have meant that net trade provided a positive contribution to growth in the final quarter of last year. Such a view is supported by the strong performance of the manufacturing sector, with the ONS estimating that manufacturing expanded by 1.4 per cent in this quarter. The volume of manufacturing output has now expanded by I per cent or more in every quarter since the final quarter of 2009.

Despite this robust performance in the months to November 2010 the trade deficit continued to widen. The goods and services trade deficit widened by 0.1 billion [pounds sterling], which is wholly attributable to trade in goods. Further, of this widening a large part was in trade with EU countries, for which the UK deficit widened by 0.2 billion [pounds sterling], whereas the deficit from trade with non-EU countries improved slightly. However, much of these movements in trade could be accounted for by erratic food and oil trade. Excluding these items, total export volumes grew by 3.4 per cent and import volumes by only 0.3 per cent between October and November.

The recent strength in net exports can perhaps be explained by movements in the effective exchange rate and price competitiveness. It was widely anticipated that the depreciation of sterling from the end of 2007 would boost exports in 2009 and 2010. However the gains from the exchange rate fall were channelled into profits rather than into a reduction in prices. We presume that markets work and we therefore expect price competitiveness to improve and the gains to feed through into demand for UK exports, and we appear to be beginning to see that happening. We expect export volume growth to be a major source of economic expansion over the coming years. The volume of manufacturing output is still around 9 per cent below its pre-recession peak, suggesting that there is still a significant amount of spare capacity in this sector to support export volume growth in the UK. We expect the growth rate of export volumes to accelerate from 5.4 per cent in 2010 to around 6 1/2 per cent per annum in 2011. The depreciation of sterling also improves the price competitiveness of domestic firms who compete directly with imports. With these price adjustments and a period of weak domestic demand we expect import growth to weaken from 7.9 per cent in 2010 to 2.1 per cent in this year and 0.8 per cent next year. Taken together, the net trade is expected to be the major source of economic growth over the next couple of years.

Household sector

Real disposable income growth was robust throughout 2008 and 2009, despite the economy contracting over much of this period. In part this was induced by policy. The temporary reduction in the standard rate of VAT pushed down the rate of inflation by up to 1 percentage point. The financial crisis may have impaired the monetary transmission mechanism, but the interest rates on financial products were reduced dramatically as Bank Rate was cut to its lowest level since the Bank of England's founding in 1694. UK households have a significant level of net and gross debt. Prior to the onset of recession, the debt to income ratio of households was 1.7, the highest in the G7 and, unlike households in Germany and France, for instance, their gross wealth is not heavily biased towards interest earning deposits. A consequence of this is that the sharp reduction in mortgage and unsecured borrowing rates, along with similar declines in deposit rates, significantly reduced the net interest payments of households, providing a positive boost to income growth.

However, real disposable income growth contracted by 1 per cent in 2010. Several factors contributed to this fall, in particular weak nominal wage growth and high and rising inflation, partly induced by the return of the standard rate of VAT to 17.5 per cent. Through a combination of a weak labour market constraining employment, real wage cuts because of the recession, high consumer price inflation due to the increase in the standard rate of VAT to 20 per cent and rapid increases in commodity prices, together with the planned increases in direct taxes (mainly in the form of increased National Insurance Contributions}, we expect real disposable incomes to shrink by around 3/4 per cent this year as well. Real compensation per person hour for employees in employment will fall by 1 per cent or more in 2011 after a similar fall in 2010. By the end of 2011 employment incomes will be back to the level seen in 2006. The decline is as sharp as that seen between 1975 and 1979.

We can view movements in average income by examining per capita real disposable income. Figure 6 plots the annual rate of growth of both aggregate and per capita real disposable incomes. Unsurprisingly, given a rising population, the per capita disposable income growth rate has been consistently lower than the aggregate income growth rate. The declines of 2010 and 2011 are exacerbated by the continued expansion of the population. At the end of 2010 per capita real disposable income is estimated to have been 3.7 per cent below the recent peak in the fourth quarter of 2008. By the end of this year we expect per capita real disposable income to be 4 per cent below this recent peak.

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We expect much of the loss in real disposable incomes to be permanent. The majority is the result of the scar to output caused by the financial crisis discussion in Barrell and Kirby in this Review. Output per person hour is likely to be around 3 per cent lower than it would otherwise have been, and hence incomes will fall by a similar amount. Wages may fall by more as an increase in the cost of capital increases its share in income when the elasticity of substitution is less than one. The rest is the consequence and the recent rise in oil prices discussed in Barrell, Delannoy and Holland in this Review. The combination of the effects of higher oil prices on trend output and on the terms of trade will reduce real incomes by about 1 per cent, with equal contributions from both sources. We do expect per capita incomes to rise as the recovery takes hold and conditions in the labour market improve from 2012 onwards. We expect aggregate real disposable income growth to rise to around 2 per cent in 2012 and then 2 1/2 per cent per annum in the medium term as unemployment declines. In per capita terms, this translates to an expectation of around 2 per cent real income growth in the medium term. It is only in 2014 that we expect the 2008 peak in per capita incomes to be recovered.

The volume of retail sales continued to grow in the fourth quarter, albeit at a very modest pace. But retail sales account for only a third of consumer spending. The components of the preliminary estimate of GDP show total services declining by 0.5 per cent on the quarter. In particular, distribution, hotels and restaurants, which includes the retail sector, declined by 0.5 per cent, suggesting that overall consumer spending contracted in the final quarter of last year.

Retail sales volumes were unchanged between December 2010 and December 2009. Breaking this down into food and non-food items, it is clear that much of this stagnation in retail sales is due to the two components netting each other out; the ONS estimates that -1.2 percentage points of the change in total retail sales came from predominantly food stores, 1.3 percentage points from predominantly non-food stores, 0.8 percentage points from non-store retail and -0.9 from automotive fuel.

Decomposing the retail figures in this manner gives clues that the weak consumer spending from the end of 2010 was due to domestic and external factors. The substantial decline in food consumption, for instance, is likely to be due to a combination of falling real personal income and higher food prices. These factors represent both income and substitution effects at work; rising food prices reduce spending power so consumers' incomes do not stretch as far, and simultaneously consumers may be substituting their consumption choices from luxury or higher priced goods to cheaper alternatives. By contrast, the decline in sales of automotive fuel is possibly a result of the bad weather conditions in December.

In our econometric model, consumer spending is determined by movements in real incomes and real financial and housing wealth. The continued fall in real incomes is expected to lead to a decline in consumer spending this year. We expect the decline to be 0.1 percentage point due to a fall-back in the household saving ratio as households attempt to smooth their consumption. This reduction in the saving ratio is expected to be temporary, as we expect real house prices will continue to fall, as figure 7 shows. The saving ratio will rise over the period 2012-15, reaching 7 3/4 per cent in 2015.

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Our preferred measure of house prices, a seasonally adjusted version of the Department for Communities and Local Government (DCLG) mix-adjusted index, suggests that the average level of house prices increased by around 7 per cent in 2010. However, by the end of 2010 house prices were around 6 per cent below the peak of the first quarter of 2008. The DCLG index measures house prices at the completion stage of a house purchase. The other major house price indices, the Nationwide and Halifax indices, measure house prices at the mortgage approval stage and as such are leading indicators of the DCLG measure. Both indices suggest that the housing market has weakened. The Halifax house price index suggests that house prices declined by 3.4 per cent per annum at the end of 2010. The Nationwide house price index reports moderation in house price inflation from 10.5 per cent in April 2010 to 0.4 per cent at the end of 2010.

We expect house prices to decline through much of this year. However, the average for this year is expected to be constant in comparison to 2009. With regard to the impact on the economy via consumer spending, it is real house prices that are important. After adjusting for inflation, real house prices increased in 2010 by 2.8 per cent (see figure 7). With the continued surge in inflation this year and a weakening housing market, we expect real house prices to fall by an average of 2 per cent in each of the next five year.

Public finances

The public finances continue to improve. The latest figures suggest that for the period April-December 2010 public sector net borrowing was 10.6 billion [pounds sterling] lower than for the same period in 2009. The return of economic growth and the reversal of the temporary VAT cut have raised tax revenues, but this has almost entirely been offset by rising current expenditure. The main factor that has lowered government borrowing in the UK over the past nine months has been the 32 per cent cut in investment. The scaling back of investment, and the increase in the rate of VAT, reflect the ending of the previous government's temporary stimulus package. We can therefore view much of the improvement in the public finances this fiscal year as structural rather than cyclical. In their November Economic and Fiscal Outlook, the OBR predicts that the ending of fiscal stimulus would result in a 1.2 per cent of GDP improvement in the cyclically adjusted public sector net borrowing between 2009-10 and 2010-11.

Fiscal policy has been modified since our October forecast was published. The Comprehensive Spending Review (CSR) 2010 adjusted the components of the government's fiscal consolidation plan rather than the plan in aggregate. The Chancellor announced the reversal of some of the additional cuts to Resource Departmental expenditure Limits (RDELs) that had been planned in the Emergency Budget. (2) According to the OBR's Economic and Fiscal Outlook, spending plans over the parliamentary term have been revised up to more closely match the 'hypothesised' plans of the previous administration. This shift in spending plans is presented in figure 8. On the basis of the OBR's projections, this boost to government consumption would have eroded the headroom that the government has in meeting their Fiscal Mandate. (3) However, the government introduced further discretionary policy changes for Annually Managed Expenditure (AME) to maintain the scale of the package. Notable policy changes announced include the abolition of child benefit for higher rate tax payers which is expected to save 0.6 billion [pounds sterling] in 2012-13, rising to 2 1/2 billion [pounds sterling] in each fiscal year 2013-14 to 2015-164 and an increase in public sector employee pension contributions raising 1.8 billion [pounds sterling] by 2014-15. The OBR estimates that the additional AME measures will yield the Exchequer 0.7 billion [pounds sterling] in 2011-12, rising to 9.9 billion [pounds sterling] in 2015-16.

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Our forecast for the public finances is presented in table A8. We have assumed that spending on goods and services, as set out in the Economic and Fiscal Outlook, are met over the period to 2015-16. We assume the government's capital expenditure plans are broadly met, with net investment falling to 1.4 per cent of GDP by 2014-15, where it stabilises. The other components of expenditure are endogenously determined within our global econometric model, NiGEM.

In our forecast, presented in table A8, tax revenues are endogenous for the whole of the forecast horizon. They are determined by the size and composition of output and expenditure over the future. We include any announced discretionary policy changes as well as an assumption allowing for further fiscal drag. The OBR classifies adjustments to tax credits and public sector pension contributions on the spending side of the public sector income and expenditure account; in the National Accounts they are classified on the revenue side. It is these discretionary policy changes that account for over half the upward increase in revenues in our current projections by 2015-16 as compared to those made in October 2010. The tax take is expected to increase by 1/2 per cent of GDP this fiscal year, driven by the increase in the standard rate of VAT in January in both 2010 and 2011. The tax take is expected to continue to rise due to further changes in discretionary policy, most notably the increase in National Insurance Contributions in April 2011. However, there is a cyclical component as a more robust economic recovery takes hold in future years. The scale of the cyclical recovery in the tax take is dependent on the structure of the recovery. An export-led recovery, such as the one we are expecting to experience, is likely to be tax poor. (6)

The OBR expects the current budget balance to move from a deficit of 7.6 per cent of GDP in 2009-10 to a surplus of 0.3 per cent in 2015-16. Public sector net borrowing is expected to be cut more aggressively, from 11.1 per cent of GDP in 2009-10 to 1 per cent in 2015-16. We are not as optimistic about the outlook for the public finances. We expect the current budget to have a deficit of 1.7 per cent of GDP (30.3 billion [pounds sterling]) in 2015-16. While we expect public sector net borrowing also to be cut aggressively over the course of the next five years, we expect borrowing still to be about 3 per cent of GDP in 2015-16 (55.2 billion [pounds sterling]). Given that the Chancellor has five years within which to announce further consolidation measures, we expect the Fiscal Mandate to be met. Our forecast highlights the fact that the planned consolidation is currently not large enough to achieve this and taxes will eventually have to rise. We would not argue for further consolidation immediately, and we have consistently argued for consolidation only when the economy can support it; our view remains that this will not be the case in 2011.

Public sector spending is higher in our forecast than in that of the OBR, and this is predominantly due to different projections for government interest payments. In the Economic and Fiscal Outlook, the OBR highlights the sensitivity of the public finance projections to shifts in the cost of funding faced by the government. The difference in government interest payments is, to a large extent, due to the rise in the yield curve. Yield curves imply that, over the next five years, long rates in the UK will be around 0.6 percentage points higher than in our October forecast. Our calculations suggest that this raises government interest payments by around a 1/4 per cent of GDP by 2015-16. However, the implications of a rise in the yield curve for the debt stock as a per cent of GDP depend upon why interest rates have risen. If inflation expectations and outturns increase, then long rates go up but real interest rates do not. Hence on newly issued debt the interest payment will include a constant real rate of return and an increased level of compensation for inflation. The latter component of debt interest is a repayment of principal, and it causes the debt stock to decline as a per cent of GDP. If inflation rises there will also be a small temporary 'inflation based wealth tax' on existing bond holders.

Public sector net borrowing is expected to tighten significantly over the next few years, halving over the period 2009-10 and 2013-14 (from 11 per cent of GDP to 4.9 per cent of GDP). This still implies a significant amount of debt accumulation. Including expected net financial transactions over the coming years implies that public sector net debt as a per cent of GDP will continue to rise in each year presented in table AS. We expect public sector net debt to rise from 61.2 per cent of GDP at the end of this fiscal year to over 74 per cent in 2015-16. The government's supplementary fiscal target is for public sector net debt as a per cent of GDP to be lower in 2015-16 than in 2014-15. Our forecast suggests that, on the basis of the current fiscal consolidation plan, this target will be missed, albeit by less than 1/2 per cent of GDP. If taxes have to rise in order for the primary target of the Fiscal Mandate to be met, this would also be enough to meet the supplementary target. Of course an alternative approach to this secondary target would be to use the proceeds from the sale of the government's stake in the nationalised banking chains to lower the debt stock.

The policy mix in the short term The UK economy faces slowing growth and rising inflation in the short term. Fiscal policy is slowing growth and the recent rise in oil prices will do the same as well as boost inflation. If interest rates have to rise to contain inflation expectations, risks from the financial sector will increase. Although the financial crisis has subsided, the financial system remains fagile, and further banking sector problems remain possible. Hence interest rates have been a major factor behind the ability of banks to rebuild their capital.

Policy has to be set with long-run benefits and objectives and short-run costs in mind. Fiscal policy needs to be tightened in the medium term with the deficit being reduced sufficiently to stop the debt stock growing. This will slow growth. The financial system needs to hold more capital, and better quality capital raising borrowing costs. This will slow growth. Interest rates need to rise in order to reduce inflation expectations and maintain the credibility of monetary policy. This will slow growth. Perhaps the increase in the interest rates is the most urgent and the strengthening of capital adequacy requirements in the banking system the most important. The current policy mix perhaps has fiscal policy too tight in the short term and monetary policy too loose. The balance of costs and benefits might suggest that fiscal consolidation should perhaps be delayed in 2011 to leave space for monetary policy tightening to deal with the impacts of higher oil prices on the inflation rate and on inflation expectations.

DOI: 10.1177/0027950111401137

Appendix--Forecast details

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Table A1. Exchange rates and interest rates

 UK exchange rates FTSE
 All-share
 Effective Dollar Euro index
 2005 = 100

2005 100.00 1.82 1.46 2587.6
2006 100.75 1.84 1.47 3022.6
2007 102.89 2.00 1.46 3306.3
2008 90.69 1.85 1.26 2728.0
2009 81.16 1.57 1.12 2326.0
2010 81.00 1.55 1.17 2818.3
2011 82.14 1.58 1.19 3095.0
2012 82.52 1.58 1.20 3129.2
2013 82.72 1.56 1.20 3267.5
2014 82.84 1.55 1.21 3401.0
2015 83.13 1.54 1.22 3530.8

2010 Q1 80.04 1.56 1.13 2778.8
2010 Q2 80.40 1.49 1.17 2765.9
2010 Q3 82.49 1.55 1.20 2744.2
2010 Q4 81.05 1.58 1.16 2984.1

2011 Q1 82.10 1.58 1.19 3112.4
2011 Q2 82.10 1.58 1.19 3082.4
2011 Q3 82.10 1.58 1.19 3085.3
2011 Q4 82.25 1.58 1.20 3099.7

2012 Q1 82.37 1.58 1.20 3108.4
2012 Q2 82.48 1.58 1.20 3113.8
2012 Q3 82.57 1.58 1.20 3130.5
2012 Q4 82.63 1.57 1.20 3164.2

Percentage changes

2005/2004 -1.6 -0.7 -0.9 15.0
2006/2005 0.7 1.3 0.4 16.8
2007/2006 2.1 8.6 -0.4 9.4
2008/2007 -11.9 -7.4 -14.0 -17.5
2009/2008 -10.5 -15.5 -10.6 -14.7
2010/2009 -0.2 -1.2 3.8 21.2
2011/2010 1.4 2.5 2.4 9.8
2012/2011 0.5 -0.5 0.5 1.1
2013/2012 0.2 -0.9 0.4 4.4
2014/2013 0.1 -1.0 0.4 4.1
2015/2014 0.4 -0.6 0.6 3.8
2010Q4/2009Q1 0.3 -3.3 5.2 11.3
2011Q4/2010Q1 1.5 0.3 2.7 3.9
2012Q4/2011Q1 0.5 -0.7 0.5 2.1

 Interest rates

 3-month Mortgage 10-year World (a) Bank
 rates interest gilts Rate (b)

2005 4.7 6.5 4.4 3.1 4.50
2006 4.8 6.5 4.5 4.1 5.00
2007 6.0 7.4 5.0 4.7 5.50
2008 5.5 6.9 4.5 3.5 2.00
2009 1.2 4.0 3.7 1.1 0.50
2010 0.7 4.0 3.6 1.0 0.50
2011 1.0 4.3 3.8 1.3 1.25
2012 1.9 5.1 4.1 1.9 2.25
2013 2.8 5.8 4.4 2.6 3.00
2014 3.3 6.1 4.5 3.3 3.50
2015 3.7 6.3 4.7 3.9 3.75

2010 Q1 0.6 4.1 4.1 1.0 0.50
2010 Q2 0.7 4.0 3.7 1.0 0.50
2010 Q3 0.8 3.9 3.2 1.0 0.50
2010 Q4 0.8 3.9 3.3 1.0 0.50

2011 Q1 0.8 4.1 3.6 1.0 0.50
2011 Q2 1.0 4.3 3.7 1.1 0.75
2011 Q3 0.9 4.4 3.8 1.3 0.75
2011 Q4 1.2 4.6 3.9 1.5 1.25

2012 Q1 1.5 4.8 4.0 1.7 1.50
2012 Q2 1.8 5.0 4.1 1.8 1.75
2012 Q3 2.0 5.2 4.2 2.0 2.00
2012 Q4 2.3 5.5 4.2 2.1 2.25

Percentage changes

2005/2004
2006/2005
2007/2006
2008/2007
2009/2008
2010/2009
2011/2010
2012/2011
2013/2012
2014/2013
2015/2014
2010Q4/2009Q1
2011Q4/2010Q1
2012Q4/2011Q1

Notes: We assume that bilateral exchange rates for the fourth quarter
of this year are the average of the first two weeks of January. We
then assume that bilateral rates remain constant for the next two
quarters of 2011 before moving in-line with the path implied by the
backward-looking uncovered interest rate parity condition based on
interest rate differentials relative to the U5. (a) Weighted average
of central bank intervention rates in OECD economies. (b) End of
period.

Table A2. Price indices

2006=100

 Whole-
 sale World
 Unit price oil
 labour Imports Exports index price
 costs deflator deflator (a) ($)(b)

2005 97.7 97.1 97.2 98.5 51.8
2006 100.0 100.0 100.0 100.0 63.4
2007 102.7 100.2 101.6 101.4 70.5
2008 105.1 112.1 113.7 105.1 95.7
2009 111.2 115.8 115.4 107.7 61.8
2010 112.9 120.7 120.4 111.0 78.9
2011 113.8 128.0 125.2 114.6 97.4
2012 116.3 128.7 127.5 118.1 106.5
2013 118.9 129.3 129.5 120.6 115.5
2014 121.3 130.9 131.6 122.7 120.4
2015 123.3 133.0 133.2 124.7 123.3

Percentage changes

2005/2004 2.6 3.7 1.0 1.0 44.4
2006/2005 2.4 2.9 2.8 1.5 22.4
2007/2006 2.7 0.2 1.6 1.4 11.2
2008/2007 2.3 12.0 12.0 3.7 35.7
2009/2008 5.8 3.3 1.5 2.5 -35.4
2010/2009 1.5 4.2 4.3 3.1 27.6
2011/2010 0.8 6.0 4.0 3.2 23.5
2012/2011 2.2 0.6 1.8 3.1 9.4
2013/2012 2.2 0.4 1.6 2.1 8.5
2014/2013 2.0 1.3 1.6 1.7 4.2
2015/2014 1.7 1.6 1.2 1.7 2.4

 Retail price index

 GDP
 deflator Excluding Consumer
 Consumption (market All mortgage prices
 deflator prices) items interest index

2005 97.4 97.0 96.9 97.1 97.7
2006 100.0 100.0 100.0 100.0 100.0
2007 102.9 103.0 104.3 103.2 102.3
2008 106.1 106.1 108.4 107.6 106.0
2009 107.5 107.6 107.9 109.8 108.3
2010 112.0 110.7 112.8 115.0 111.9
2011 116.8 114.4 118.5 120.1 116.2
2012 118.9 116.9 122.0 122.8 118.2
2013 121.0 119.4 125.2 125.6 120.4
2014 123.5 121.9 128.5 128.7 122.8
2015 125.9 124.2 131.9 132.0 125.3

Percentage changes

2005/2004 2.4 2.0 2.8 2.3 2.1
2006/2005 2.7 3.0 3.2 2.9 2.3
2007/2006 2.9 3.0 4.3 3.2 2.3
2008/2007 3.1 3.0 4.0 4.3 3.6
2009/2008 1.3 1.4 -0.5 2.0 2.2
2010/2009 4.2 2.9 4.6 4.8 3.3
2011/2010 4.2 3.3 5.0 4.5 3.8
2012/2011 1.8 2.2 2.9 2.2 1.8
2013/2012 1.8 2.2 2.7 2.3 1.8
2014/2013 2.0 2.1 2.6 2.5 2.0
2015/2014 2.0 1.9 2.7 2.5 2.0

Notes: (a) Excluding food, beverages, tobacco and petroleum products.
(b) Per barrel, average of Dubai and Brent spot prices.

Table A3. Gross domestic product and components of expenditure

[pounds sterling] billion, 2006 prices

 Final consumption Gross capital
 expenditure formation

 Households General Gross Changes in
 & NPISH (a) gov't fixed in- inventories
 vestment (b)

2005 836.6 281.3 213.6 4.6
2006 852.0 285.2 227.2 5.5
2007 870.8 288.8 245.1 7.4
2008 874.5 293.5 232.8 1.4
2009 846.9 296.3 197.0 -14.8
2010 854.9 299.8 202.8 0.3
2011 854.4 297.7 206.5 4.8
2012 858.4 293.9 212.2 4.8
2013 872.9 288.5 221.7 4.8
2014 891.3 281.7 233.9 4.8
2015 911.8 276.9 247.5 4.8

Percentage changes

2005/2004 2.2 2.0 2.4
2006/2005 1.8 1.4 6.4
2007/2006 2.2 1.3 7.8
2008/2007 0.4 1.6 -5.0
2009/2008 -3.2 1.0 -15.4
2010/2009 0.9 1.2 3.0
2011/2010 -0.1 -0.7 1.8
2012/2011 0.5 -1.3 2.8
2013/2012 1.7 -1.8 4.4
2014/2013 2.1 -2.4 5.5
2015/2014 2.3 -1.7 5.8

Decomposition of growth in GDP

2005 1.4 0.4 0.4 -0.1
2006 1.2 0.3 1.1 0.1
2007 1.4 0.3 1.3 0.1
2008 0.3 0.3 -0.9 -0.4
2009 -2.0 0.2 -2.6 -1.2
2010 0.6 0.3 0.4 1.2
2011 0.0 -0.2 0.3 0.3
2012 0.3 -0.3 0.4 0.0
2013 1.1 -0.4 0.7 0.0
2014 1.3 -0.5 0.9 0.0
2015 1.4 -0.3 1.0 0.0

 Domestic Total Total Total Net
 demand exports final imports trade
 (c) expendi- (c)
 ture

2005 1336.6 340.3 1676.8 384.5 -44.2
2006 1369.9 378.0 1747.9 419.6 -41.5
2007 1412.0 368.3 1780.3 416.3 -48.0
2008 1402.2 372.1 1774.3 411.1 -39.0
2009 1325.5 334.6 1660.1 362.0 -27.4
2010 1357.8 352.2 1710.0 390.8 -38.6
2011 1363.4 374.7 1738.1 399.2 -24.5
2012 1369.3 396.3 1765.6 402.3 -6.0
2013 1387.8 423.3 1811.1 416.0 7.3
2014 1411.7 449.4 1861.1 432.8 16.6
2015 1440.9 469.3 1910.2 449.3 19.9

Percentage changes

2005/2004 2.1 7.9 3.2 7.1
2006/2005 2.5 11.1 4.2 9.1
2007/2006 3.1 -2.6 1.9 -0.8
2008/2007 -0.7 1.0 -0.3 -1.2
2009/2008 -5.5 -10.1 -6.4 -11.9
2010/2009 2.4 5.2 3.0 7.9
2011/2010 0.4 6.4 1.6 2.1
2012/2011 0.4 5.8 1.6 0.8
2013/2012 1.4 6.8 2.6 3.4
2014/2013 1.7 6.2 2.8 4.0
2015/2014 2.1 4.4 2.6 3.8

Decomposition of growth in GDP

2005 2.2 2.0 4.2 -2.0 0.0
2006 2.6 2.9 5.5 -2.7 0.2
2007 3.2 -0.7 2.4 0.2 -0.5
2008 -0.7 0.3 -0.4 0.4 0.7
2009 -5.6 -2.8 -8.4 3.6 0.9
2010 2.5 1.4 3.8 -2.2 -0.9
2011 0.4 1.7 2.1 -0.6 1.1
2012 0.4 1.6 2.1 -0.2 1.4
2013 1.4 2.0 3.3 -1.0 1.0
2014 1.7 1.9 3.6 -1.2 0.7
2015 2.0 1.4 3.4 -1.2 0.2

 GDP
 at
 market
 prices

2005 1292.3
2006 1328.4
2007 1364.0
2008 1363.1
2009 1296.7
2010 1315.0
2011 1334.8
2012 1359.2
2013 1391.6
2014 1426.4
2015 1460.5

Percentage changes

2005/2004 2.2
2006/2005 2.8
2007/2006 2.7
2008/2007 -0.1
2009/2008 -4.9
2010/2009 1.4
2011/2010 1.5
2012/2011 1.8
2013/2012 2.4
2014/2013 2.5
2015/2014 2.4

Decomposition of growth in GDP

2005 2.2
2006 2.8
2007 2.7
2008 -0.1
2009 -4.9
2010 1.4
2011 1.5
2012 1.8
2013 2.4
2014 2.5
2015 2.4

Notes: (a) Non-profit institutions serving households. (b) Including
acquisitions less disposals of valuables and quarterly alignment
adjustment. (c) Includes Missing Trader Intra-Community Fraud. (d)
Components may not add up to total GDP growth due to rounding and
statistical discrepancy included in GDP.

Table A4. External sector

 Exports Imports Net Exports Imports Net
 of of trade of of trade in
 goods goods in services services services
 (a) (a) goods
 (a)

 [pounds sterling] billion, 2006 prices (b)

2005 218.6 289.7 -71.1 121.7 94.8 27.0
2006 243.6 319.9 -76.3 134.4 99.6 34.8
2007 218.5 311.3 -92.8 149.8 105.0 44.8
2008 221.5 305.7 -84.1 150.6 105.5 45.1
2009 194.2 267.3 -73.0 140.4 94.8 45.6
2010 214.3 295.4 -81.1 137.9 95.4 42.5
2011 233.5 305.2 -71.7 141.2 94.0 47.2
2012 249.6 306.7 -57.1 146.7 95.6 51.1
2013 268.0 317.1 -49.1 155.3 98.9 56.4
2014 284.7 330.1 -45.4 164.7 102.7 62.0
2015 296.6 342.8 -46.2 172.7 106.5 66.2

Percentage changes

2005/2004 8.9 7.0 6.3 7.3
2006/2005 11.5 10.4 10.4 5.1
2007/2006 -10.3 -2.7 11.5 5.4
2008/2007 1.4 -1.8 0.5 0.5
2009/2008 -12.3 -12.6 -6.8 -10.2
2010/2009 10.3 10.5 -1.8 0.6
2011/2010 9.0 3.3 2.4 -1.5
2012/2011 6.9 0.5 3.9 1.7
2013/2012 7.4 3.4 5.9 3.5
2014/2013 6.2 4.1 6.1 3.8
2015/2014 4.2 3.9 4.8 3.7

 Export World Terms Current
 price trade (d) of trade balance
 competitive- (e)
 ness (c)

 2006=100 % of GDP

2005 98.0 92.4 100.1 -2.6
2006 100.0 100.0 100.0 -3.4
2007 104.1 107.2 101.4 -2.6
2008 101.2 110.0 101.4 -1.6
2009 93.7 97.7 99.6 -1.7
2010 95.6 108.0 99.7 -2.2
2011 98.1 116.1 97.8 -2.0
2012 97.8 122.3 99.0 -0.4
2013 97.7 129.1 100.2 0.5
2014 97.4 134.9 100.5 1.0
2015 97.0 140.4 100.2 0.9

Percentage changes

2005/2004 -2.5 7.7 -2.6
2006/2005 2.1 8.2 -0.1
2007/2006 4.1 7.2 1.4
2008/2007 -2.7 2.6 0.0
2009/2008 -7.4 -11.2 -1.7
2010/2009 2.0 10.5 0.1
2011/2010 2.6 75 -1.9
2012/2011 -0.3 5.4 1.2
2013/2012 -0.1 5.5 1.2
2014/2013 -0.3 4.5 0.3
2015/2014 -0.4 4.1 -0.3

Notes: (a) Includes Missing Trader Intra-Community Fraud. (b) Balance
of payments basis. (c) A rise denotes a loss in UK competitiveness.
(d) Weighted by import shares in UK export markets. (e) Ratio of
average value of exports to imports.

Table A5. Household income and expenditure

 Average (a) Compen- Total Gross
 earnings sation of personal disposable
 employees income income

 2006=100 billion [pounds sterling],
 current prices

2005 95.7 677.5 1081.1 817.6
2006 100.0 713.0 1133.0 853.1
2007 105.0 752.2 1179.8 881.5
2008 106.6 769.2 1230.3 919.5
2009 109.3 774.0 1241.4 942.2
1010 111.9 797.1 1276.9 972.4
1011 116.3 815.6 1311.3 1005.5
2011 119.6 848.8 1377.4 1044.2
2013 123.4 887.8 1440.5 1088.9
2014 127.5 928.5 1511.7 1139.2
2015 131.3 966.7 1583.9 1191.6

Percentage changes
2005/2004 3.6 4.8 5.3 4.5
2006/2005 4.5 5.2 4.8 4.3
2007/2006 5.0 5.5 4.1 3.3
2008/2007 1.5 2.3 4.3 4.3
2009/2008 2.5 0.6 0.9 2.5
2010/2009 3.4 3.0 1.9 3.2
2011/2010 3.0 2.3 3.6 3.4
2012/2011 2.8 4.1 4.2 3.8
2013/2012 3.2 4.6 4.6 4.3
2014/2013 3.3 4.6 4.9 4.6
2015/2014 3.1 4.1 4.8 4.6

 Real Final consumption Saving
 disposable expenditure ratio (c)
 income (b)
 Total Durable

 billion [pounds sterling],
 current prices

2005 839.3 836.6 85.8 3.9
2006 853.1 852.0 91.7 3.5
2007 856.6 870.8 97.9 2.6
2008 866.3 874.5 100.8 2.0
2009 876.4 846.9 99.9 6.0
1010 867.9 854.9 105.1 4.9
1011 861.0 854.4 104.0 4.8
2011 878.3 858.4 104.7 6.3
2013 899.6 872.9 106.7 7.1
2014 922.7 891.3 108.8 7.6
2015 946.1 911.8 110.9 7.8

Percentage changes
2005/2004 2.0 2.2 6.3
2006/2005 1.6 1.8 6.9
2007/2006 0.4 2.2 6.7
2008/2007 1.1 0.4 3.0
2009/2008 1.2 -3.2 -0.9
2010/2009 -1.0 0.9 5.3
2011/2010 -0.8 -0.1 -1.2
2012/2011 2.0 0.5 0.7
2013/2012 2.4 1.7 1.9
2014/2013 2.6 2.1 2.0
2015/2014 2.5 2.3 1.9

 House Net
 prices (d) worth to
 income
 2006=100 ratio (e)

2005 94.1 6.6
2006 100.0 7.0
2007 110.9 7.1
2008 109.9 6.0
2009 101.3 6.5
1010 108.5 6.8
1011 108.5 6.7
2011 107.2 6.6
2013 107.1 6.5
2014 108.0 6.5
2015 109.8 6.4

Percentage changes
2005/2004 5.5
2006/2005 6.3
2007/2006 10.9
2008/2007 -0.9
2009/2008 -7.8
2010/2009 7.1
2011/2010 0.0
2012/2011 -1.2
2013/2012 -0.1
2014/2013 0.9
2015/2014 1.7

Notes: (a) Average earnings equals total labour compensation divided
by the number of employees. (b) Deflated by consumers' expenditure
deflator. (c) Includes adjustment for change in net equity of
households in pension funds. (d) Department for Communities and Local
Government, mix-adjusted. (e) Net worth is defined as housing wealth
plus net financial assets.

Table A6. Fixed investment and capital

billion [pounds sterling, 2006 prices

 Gross fixed investment (a)

 Business Private General Total
 investment housing (b) government

2005 122.1 67.2 23.7 213.6
2006 127.9 73.9 25.4 227.2
2007 144.0 74.1 27.0 245.1
2008 142.4 56.7 33.6 232.8
2009 115.5 41.5 40.0 197.0
2010 118.7 43.4 40.7 202.8
2011 125.0 47.2 34.3 206.5
2012 131.4 49.8 31.0 212.2
2013 138.5 54.0 29.2 221.7
2014 146.0 59.2 28.7 233.9
2015 153.3 64.7 29.5 247.5

Percentage changes
2005/2004 4.5 -4.8 10.9 2.4
2006/2005 4.8 10.0 7.3 6.4
2007/2006 12.5 0.2 6.4 7.8
2008/2007 -1.1 -23.4 24.5 -5.0
2009/2008 -18.9 -26.9 18.9 -15.4
2010/2009 2.7 4.8 1.8 3.0
2011/2010 5.3 8.6 -15.6 1.8
2012/2011 5.1 5.5 -9.7 2.8
2013/2012 5.4 8.4 -5.9 4.4
2014/2013 5.4 9.6 -1.5 5.5
2015/2014 5.0 9.4 2.5 5.8

 User Corporate Capital stock
 cost profit
 of share of Private Public (c)
 capital (%) GDP (%)

2005 17.1 24.2 2163.9 554.1
2006 16.6 25.0 2219.2 564.1
2007 16.5 25.2 2301.2 577.1
2008 16.1 26.2 2370.7 593.2
2009 14.7 25.0 2401.3 612.2
2010 14.5 23.8 2414.2 632.9
2011 16.5 24.9 2433.5 646.6
2012 17.1 25.5 2458.5 656.7
2013 17.0 26.0 2491.6 664.6
2014 16.9 26.4 2533.9 671.9
2015 16.9 26.8 2585.3 679.6

Percentage changes
2005/2004 2.4 1.9
2006/2005 2.6 1.8
2007/2006 3.7 2.3
2008/2007 3.0 2.8
2009/2008 1.3 3.2
2010/2009 0.5 3.4
2011/2010 0.8 2.2
2012/2011 1.0 1.6
2013/2012 1.3 1.2
2014/2013 1.7 1.1
2015/2014 2.0 1.1

Notes: (a) Fixed investment figures exclude the effect of the transfer
of BFNL nuclear reactors to central government in 2005Q2. (b) Includes
private sector transfer costs of non-produced assets. (c) Including
public sector non-financial corporations.

Table A7. Productivity and the labour market

Thousands

 Employment ILO Population
 unemploy- Labour of
 Employees Total(a) ment force(b) working
 age

2005 24929 28775 1466 30241 37419
2006 25096 29027 1672 30699 37708
2007 25209 29225 1653 30878 37916
2008 25408 29441 1781 31221 38090
2009 24939 28978 2394 31372 38236
2010 14844 29029 2481 31511 38395
2011 24683 28902 2742 31644 38711
2012 24985 29227 2568 31794 38935
2013 25327 29602 2357 31959 39169
2014 25641 29950 2175 32125 39406
2015 25906 30249 2041 32291 39638

Percentage changes
2005/2004 1.2 1.0 2.9 1.1 0.9
2006/2005 0.7 0.9 14.1 1.5 0.8
2007/2006 0.5 0.7 -1.2 0.6 0.6
2008/2007 0.8 0.7 7.7 1.1 0.5
2009/2008 -1.8 -1.6 34.5 0.5 0.4
2010/2009 -0.4 0.2 3.6 0.4 0.4
2011/2010 -0.6 -0.4 10.5 0.4 0.8
2012/2011 1.2 1.1 -6.4 0.5 0.6
2013/2012 1.4 1.3 -8.2 0.5 0.6
2014/2013 1.2 1.2 -7.7 0.5 0.6
2015/2014 1.0 1.0 -6.2 0.5 0.6

 Productivity Unemployment, %
 (2006=100)
 Claimant ILO unem-
 Per hour Manufact- rate ployment
 uring rate

2005 97.7 95.4 2.7 4.8
2006 100.0 100.0 3.0 5.4
2007 102.0 102.6 2.7 5.4
2008 101.4 102.4 2.8 5.7
2009 99.5 98.4 4.7 7.6
2010 100.6 104.7 4.6 7.9
2011 102.3 110.7 5.2 8.7
2012 102.8 116.0 4.6 8.1
2013 103.6 120.7 4.0 7.4
2014 104.6 124.8 3.5 6.8
2015 106.0 128.6 3.1 6.3

Percentage changes
2005/2004 1.1 4.6
2006/2005 2.4 4.9
2007/2006 1.9 2.6
2008/2007 -0.5 -0.3
2009/2008 -1.9 -3.8
2010/2009 1.1 6.3
2011/2010 1.7 5.8
2012/2011 0.4 4.8
2013/2012 0.8 4.0
2014/2013 1.0 3.4
2015/2014 1.3 3.0

Notes: (a) Includes self-employed, government-supported trainees and
unpaid family members. (b) Employment plus ILO unemployment

Table A8. Public sector financial balance and borrowing requirement

billion [pounds sterling], fiscal years

 2008-9 2009-10

Current receipts: Taxes on income 355.2 337.9
 Taxes on expenditure 167.6 168.6
 Other current receipts 11.3 14.3
 Total 534.1 520.8
 (as a % of GDP) 37.3 37.1

Current expenditure: Goods and services 319.0 330.0
 Net social benefits paid 171.5 188.3
 Debt interest 32.3 31.5
 Other current expenditure 43.0 50.9
 Total 565.9 600.6
 (as a % of GDP) 39.5 42.8

Depreciation 19.0 19.8

Surplus on public sector current budget (a) -50.8 -99.6
(as a % of GDP) -3.6 -7.1

Gross investment 65.7 74.9
Net investment 46.7 55.1
(as a % of GDP) 3.3 3.9

Total managed expenditure 631.6 675.5
(as a % of GDP) 44.1 48.1

Public sector net borrowing 97.5 154.7
(as a % of GDP) 6.8 11.0

Financial transactions 26.9 11.5
Public sector net cash requirement 70.6 143.2
(as a % of GDP) 4.9 10.2
Public sector net debt (% of GDP) 44.1 53.8

GDP deflator at market prices (2006=100) 106.6 108.4
Money GDP 1433.4 1404.1

Financial balance under Maastricht (% of GDP) (b) -5.0 -11.4
Gross debt under Maastricht (% of GDP) (b) 52.1 68.1

 2010-11 2011-12

Current receipts: Taxes on income 348.1 363.1
 Taxes on expenditure 193.0 205.8
 Other current receipts 13.0 14.0
 Total 554.1 582.8
 (as a % of GDP) 37.6 37.8

Current expenditure: Goods and services 338.2 342.7
 Net social benefits paid 196.7 204.1
 Debt interest 45.4 51.3
 Other current expenditure 51.6 49.4
 Total 631.8 647.5
 (as a % of GDP) 42.9 42.0

Depreciation 20.5 21.8

Surplus on public sector current budget (a) -98.3 -86.4
(as a % of GDP) -6.7 -5.6

Gross investment 61.7 52.4
Net investment 41.2 30.6
(as a % of GDP) 2.8 2.0

Total managed expenditure 693.6 699.9
(as a % of GDP) 47.1 45.4

Public sector net borrowing 139.5 117.0
(as a % of GDP) 9.5 7.6

Financial transactions -0.9 -10.0
Public sector net cash requirement 140.4 127.0
(as a % of GDP) 9.5 8.2
Public sector net debt (% of GDP) 61.2 67.1

GDP deflator at market prices (2006=100) 111.5 115.0
Money GDP 1474.1 1540.9

Financial balance under Maastricht (% of GDP) (b) -10.1 -8.4
Gross debt under Maastricht (% of GDP) (b) 78.4 82.2

 2012-13 2013-14

Current receipts: Taxes on income 384.5 407.5
 Taxes on expenditure 210.6 217.4
 Other current receipts 14.5 15.2
 Total 609.6 640.1
 (as a % of GDP) 38.0 38.1

Current expenditure: Goods and services 344.7 348.4
 Net social benefits paid 208.7 213.4
 Debt interest 55.1 58.3
 Other current expenditure 50.9 52.5
 Total 659.4 672.6
 (as a % of GDP) 41.1 40.0

Depreciation 22.8 23.8

Surplus on public sector current budget (a) -72.6 -56.3
(as a % of GDP) -4.5 -3.3

Gross investment 50.4 49.1
Net investment 27.6 25.3
(as a % of GDP) 1.7 1.5

Total managed expenditure 709.8 721.8
(as a % of GDP) 44.2 42.9

Public sector net borrowing 100.2 81.6
(as a % of GDP) 6.2 4.9

Financial transactions -6.0 -13.0
Public sector net cash requirement 106.2 94.6
(as a % of GDP) 6.6 5.6
Public sector net debt (% of GDP) 70.8 73.1

GDP deflator at market prices (2006=100) 117.5 120.0
Money GDP 1605.9 1681.1

Financial balance under Maastricht (% of GDP) (b) -7.1 -5.7
Gross debt under Maastricht (% of GDP) (b) 85.3 86.6

 2014-15 2015-16

Current receipts: Taxes on income 430.8 453.7
 Taxes on expenditure 225.5 234.7
 Other current receipts 15.9 16.6
 Total 672.2 705.0
 (as a % of GDP) 38.2 38.5

Current expenditure: Goods and services 348.0 352.9
 Net social benefits paid 222.3 233.4
 Debt interest 61.9 66.2
 Other current expenditure 54.3 56.1
 Total 686.6 708.6
 (as a % of GDP) 39.1 38.6

Depreciation 24.7 25.7

Surplus on public sector current budget (a) -39.1 -29.2
(as a % of GDP) -2.2 -1.6

Gross investment 49.2 50.8
Net investment 24.5 25.1
(as a % of GDP) 1.4 1.4

Total managed expenditure 735.8 759.3
(as a % of GDP) 41.9 41.4

Public sector net borrowing 63.6 54.3
(as a % of GDP) 3.6 3.0

Financial transactions -7.0 -7.0
Public sector net cash requirement 70.6 61.3
(as a % of GDP) 4.0 3.3
Public sector net debt (% of GDP) 74.0 74.3

GDP deflator at market prices (2006=100) 122.5 124.8
Money GDP 1757.6 1833.4

Financial balance under Maastricht (% of GDP) (b) -4.4 -3.6
Gross debt under Maastricht (% of GDP) (b) 86.7 86.2

Notes: These data are constructed from seasonally adjusted national
accounts data. This results in differences between the figures here
and unadjusted fiscal year data. Data exclude the impact of financial
sector interventions. (a) Public sector current budget surplus is
total current receipts less total current expenditure and
depreciation. (b) Calendar year.

Table A9. Accumulation

As a percentage of GDP

 Households Companies General government

 Saving invest- Saving invest- Saving invest-
 ment ment ment

2005 2.7 5.3 12.8 10.1 -1.1 1.7
2006 2.3 5.6 12.0 10.2 -0.2 1.7
2007 1.7 5.8 14.3 10.8 -0.4 1.6
2008 1.3 4.6 15.0 9.8 -1.3 2.2
2009 4.2 3.4 13.9 7.4 -6.3 2.6
1010 3.4 3.4 15.1 8.5 -6.5 1.5
2011 3.3 3.7 13.9 8.6 -4.9 1.9
2012 4.3 3.9 13.2 8.5 -3.9 1.6
2013 4.8 4.1 12.4 8.5 -2.7 1.4
2014 5.2 4.5 11.7 8.5 -1.6 1.3
2015 5.3 4.9 11.0 8.6 -0.8 1.2

 Whole economy Finance Net
 from national
 Saving invest- abroad saving (a)
 ment

2005 14.5 17.1 2.6 -1.8
2006 14.1 17.5 3.4 -0.7
2007 15.6 18.2 2.6 -1.5
2008 15.0 16.7 1.6 -2.0
2009 11.8 13.5 1.7 -1.5
1010 11.2 14.4 2.1 -2.1
2011 11.2 14.1 2.0 -1.9
2012 13.6 14.0 0.4 -1.6
2013 14.5 14.0 -0.5 -1.0
2014 15.3 14.3 -1.0 -0.6
2015 15.5 14.7 -0.9 -0.4

Note: (a) Negative sign indicates a surplus for the UK.

Table A10. Long-term projections

All figures percentage change unless otherwise stated

 2007 2008 2009 2010 2011

GDP (market prices) 2.7 -0.1 -4.9 1.4 1.5
Average earnings 5.0 1.5 2.5 3.4 3.0
GDP deflator (market prices) 3.0 3.0 1.4 2.9 3.3
Consumer Prices Index 2.3 3.6 2.2 3.3 3.8
Per capita GDP 2.0 -0.7 -5.5 0.9 0.9
Whole economy productivity (a) 1.9 -0.5 -1.9 1.1 1.7
Labour input (b) 0.8 0.4 -2.9 0.4 -0.2
ILO unemployment rate (%) 5.4 5.7 7.6 7.9 8.7
Current account (% of GDP) -2.6 -1.6 -1.7 -2.2 -2.0
Total managed expenditure
 (% of GDP) 40.8 42.6 47.7 47.8 45.7
Public sector net borrowing
 (% of GDP) 2.5 4.6 10.8 10.2 7.9
Public sector net debt
 (% of GDP) 36.7 38.8 48.6 57.0 63.6
Effective exchange rate
 (2005=100) 102.9 90.7 81.2 81.0 82.1
Bank Rate (%) 5.5 4.7 0.6 0.5 0.8
3 month interest rates (%) 6.0 5.5 1.2 0.7 1.0
10 year interest rates (%) 5.0 4.5 3.7 3.6 3.8

 2012 2013 2014 2015 2016-20

GDP (market prices) 1.8 2.4 2.5 2.4 2.5
Average earnings 2.8 3.2 3.3 3.1 3.5
GDP deflator (market prices) 2.2 2.2 2.1 1.9 1.9
Consumer Prices Index 1.8 1.8 2.0 2.0 2.0
Per capita GDP 1.2 1.8 1.9 1.8 1.8
Whole economy productivity (a) 0.4 0.8 1.0 1.3 2.0
Labour input (b) 1.5 1.7 1.5 1.0 0.4
ILO unemployment rate (%) 8.1 7.4 6.8 6.3 6.1
Current account (% of GDP) -0.4 0.5 1.0 0.9 0.1
Total managed expenditure
 (% of GDP) 44.5 43.2 42.1 41.5 41.1
Public sector net borrowing
 (% of GDP) 6.6 5.2 3.9 3.1 2.2
Public sector net debt
 (% of GDP) 68.7 71.8 73.5 74.1 72.3
Effective exchange rate
 (2005=100) 82.5 82.7 82.8 83.1 84.3
Bank Rate (%) 1.8 2.7 3.3 3.6 4.5
3 month interest rates (%) 1.9 2.8 3.3 3.7 4.6
10 year interest rates (%) 4.1 4.4 4.5 4.7 4.9

Notes: (a) Per hour. (b) Total hours worked.

ACKNOWLEDGEMENTS

The forecast was completed using the latest version of the National Institute Global Econometric Model (NiGEM). Thanks to Dawn Holland for helpful comments and suggestions.

The forecast was completed on 25 January 2011.

REFERENCES

Barrell, R., Hurst, A.I. and Mitchell, J. (2009), 'Uncertainty bounds for cyclically adjusted budget balances', in Larch, M. and Martins, L.N. (eds), Fiscal Indicators, London, Routledge, pp. 187-206.

Barrell, R. and Kirby, S. (2008), 'Oil prices and growth', National Institute Economic Review, 204, pp. 39-42.

Bird, D. (2010) 'Zero pay growth in public sector average weekly earnings; is it likely?', Economic and Labour Market Review, 4.

Holland, D., Kirby, S. and Whitworth, R. (2009), 'Labour markets in recession: an international comparison', National Institute Economic Review, 209, pp. 3541. --(2010), 'An international comparison of employment in recovery', National Institute Economic Review, 214, October, pp F35-40.

Pike, P., Lewis, M. and Turner, D. (2009), 'Impact of VAT reduction on the consumer price indices', Economic and Labour Market Review, 3, 8, pp. 17-21.

NOTES

(1) Pike et al. (2009) suggest that only 66 per cent of 'local shops' passed on the VAT reduction to customers.

(2) RDELs are broadly consistent with nominal government consumption as defined in the National Accounts.

(3) The government's Fiscal Mandate is a target that looks five years ahead. The current target is for the cyclically adjusted budget deficit to be in balance by 2015-16.

(4) Fiscal drag implies that an increasing number of taxpayers will be exempt from claiming child benefit.

(5) In 2009-10 there was a 4 billion [pounds sterling] discrepancy between the National Accounts measure of spending that we use in the forecast and the Public Sector Finances measure projected by the OBR. We assume this discrepancy disappears by 2011-12.

(6) Barrell, Hurst and Mitchell (2009) discuss this issue.

Simon Kirby, with Ray Barrell and Rachel Whitworth The production of this forecast is supported by the Institute's Corporate Members: Abbey plc, Bank of England, Barclays Bank plc, HM Treasury, Nomura Research Institute Europe Ltd, and the Office for National Statistics and by the members of the NiGEM users group.

Table 1. Summary of the forecast

Percentage change

 2007 2008 2009 2010 2011

GDP 2.7 -0.1 -4.9 1.4 1.5
Per capita GDP 2.0 -0.7 -5.5 0.9 0.9

CPI Inflation 2.3 3.6 2.2 3.3 3.8
RPIX Inflation 3.2 4.3 2.0 4.8 4.5

RPDI 0.4 1.1 1.2 -1.0 -0.8

Unemployment, % 5.4 5.7 7.6 7.9 8.7
Bank Rate, % 5.5 4.7 0.6 0.5 0.8
Long Rates, % 5.0 4.5 3.7 3.6 3.8
Effective exchange rate 2.1 -11.9 -10.5 -0.2 1.4

Current account as % of GDP -2.6 -1.6 -1.7 -2.2 -2.0

PSNB as % of GDP (a) 2.3 6.8 11.0 9.5 7.6
KIND as % of GDP (a) 36.4 44.1 53.8 61.2 67.1

 2012 2013 2014 2015

GDP 1.8 2.4 2.5 2.4
Per capita GDP 1.2 1.8 1.9 1.8

CPI Inflation 1.8 1.8 2.0 2.0
RPIX Inflation 2.2 2.3 2.5 2.5

RPDI 2.0 2.4 2.6 2.5

Unemployment, % 8.1 7.4 6.8 6.3
Bank Rate, % 1.8 2.7 3.3 3.6
Long Rates, % 4.1 4.4 4.5 4.7
Effective exchange rate 0.5 0.2 0.1 0.4

Current account as % of GDP -0.4 0.5 1.0 0.9

PSNB as % of GDP (a) 6.2 4.9 3.6 3.0
KIND as % of GDP (a) 70.8 73.1 74.0 74.3

Notes: RPDI is real personal disposable income. PSNB is public sector
net borrowing. PSND is public sector net debt. (a) Fiscal year,
excludes the impact of financial sector interventions.