According to a new study by the Washington-based Peterson Institute for International Economics (PIIE), the British economy is projected to shrink in both 2023 and 2024. The report highlights several factors, including persistent inflation, falling real incomes of low-income households, and a shortage of workers, that could contribute to a 0.3% drop in the country’s gross domestic product (GDP) this year, with a further 0.2% decline expected next year.
Posen, the president of PIIE and a former member of the Bank of England’s monetary policy committee, commented on the report, stating, “The UK won’t be in recession all of next year, but the recovery will be held back by higher-than-expected inflation, and in response, the Bank of England will need to keep interest rates higher for longer.” He also noted that the UK economy is still grappling with the aftermath of Brexit and will likely face challenges from planned cuts to government spending next year.
The recent decision by the central bank to refrain from raising interest rates for the first time in nearly two years was based on a surprise drop in inflation in August, which decreased to 6.7%, driven by weaker growth in food prices and reduced costs of accommodation and air travel. However, despite this decline, UK inflation remains the highest among G7 economies.
Posen warned that if inflation does not continue to slow, there is a possibility of more rate hikes in the coming months. Karen Dynan, a co-author of the report, echoed the institute’s concerns, emphasizing that the issue of high inflation is not unique to the UK. She stated, “While inflation appears to be receding in most countries, it remains decidedly above central bank targets. As a result, most central banks will need to keep their policy rates high over the coming year, with the resulting tight financial conditions holding back demand and slowing economic activity.”
The PIIE report underscores the challenges that the UK economy faces in the near future. In addition to inflationary pressures, the effects of Brexit and planned cuts to government spending are expected to weigh on economic growth prospects. It is crucial for policymakers in the UK to carefully navigate these challenges and implement effective measures to support economic recovery and stability.
In conclusion, the British economy is projected to experience contraction in the next two years, primarily due to factors such as persistent inflation, falling real incomes of low-income households, and a shortage of workers. The report highlights the need for the Bank of England to maintain higher interest rates and warns of potential rate hikes in the future if inflation remains high. The PIIE study emphasizes that the issue of elevated inflation is a global concern that could hinder economic activity and demand.