Conservative party members could be forgiven for believing that the economy had become their friend after the Liz Truss mini-budget debacle faded from view.
Heading into 2024, there was an expectation of a return to growth. And the first three months of data showed that a bounceback from last year’s recession was in train and that household disposable incomes were on the rise.
It was widely reported that Rishi Sunak’s election gamble was built, at least in part, on figures that showed the economy was on the up and a hope that this would in turn improve his prospects in a national vote.
Last week, the plan began to unravel when the Office for National Statistics (ONS) said the economy had flatlined in April, with 0% growth.
Bad weather was partly to blame, reducing the footfall on high streets and forcing building companies to delay some construction projects, but the cold and rain could not account for the downturn in manufacturing or the lack of growth in UK exports.
Separate data for the jobs market in the three months to the end of April were also a disappointment. The figures showed a rise in unemployment and companies withdrawing job adverts in a sign of waning confidence in the outlook for the economy.
Another test for Sunak is due on Wednesday, when the ONS will publish inflation figures for May. The consumer prices index (CPI) is expected to fall to 2% – the Bank of England’s target – from 2.3% in April. Significantly, though, that is not expected to be enough to persuade the Bank to cut interest rates when it announces its latest decision on Thursday.
Sunak made five pledges last year, including one to halve inflation from above 10%. While this has been achieved, it has not happened quickly enough to convince the Bank’s monetary policy committee (MPC) – at least for the time being – that it has been definitively beaten.
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The CPI index’s fall to 2.3% last month, from 3.2% in March, was not as much as analysts had expected. Rob Wood, the chief UK economist at Pantheon Macroeconomics, said: “The big surprise when the figures were published last month was the strength of inflation across the services sector. And the big question this time is whether this was a one-off or whether state and private-sector services firms are consistently, month after month, increasing prices.”
Wood – who is among those who predicts inflation will have fallen to 2% in May – is firmly in the one-off camp. He cites the increase in passport fees and the 6.7% rise in the TV licence fee in April as examples of one-off cost increases affecting household budgets. Mortgage borrowers, who have suffered a dramatic increase in monthly interest costs, will be hoping the Bank agrees.
Last year, financial markets were expecting that the combination of a steep fall in inflation during 2024 and a stagnant economy would trigger – perhaps as early as May – the first rate cut by the Bank since 2020.
As late as November last year, investors were betting that officials in Threadneedle Street would be viewing inflation as a transitory phenomenon, albeit for a longer transition period than they first forecast. Meanwhile, persistently low growth would mean the economy would need help from lower borrowing costs.
That was then. These days, markets expect the MPC to hold interest rates at 5.25% at every meeting until November, betting that only then will borrowing costs begin to come down.
The Bank appears to want further evidence that rising prices are no longer a concern. It will be watching the US Federal Reserve, which has signalled a long delay before it takes action to lower rates, citing strong cost increases in the services sector for its decision. Fed chair Jerome Powell described price growth as “still too high” after a modest drop from 3.4% to 3.3% in May.
Wood says the falling costs of energy and food have fully run their course. That means services inflation needs to moderate or there is much less chance of the Bank making any interest rate cuts this year.
