The cost of living crisis could tip the UK into a mild recession next year, prompting the Bank of England to pause interest rate hikes, according to a new report.
Accountancy giant KPMG said that, under its main scenario, economic growth in Britain could slow to just 0.7 per cent in 2023, as higher borrowing costs put a strain on businesses and consumers.
However, a ‘mild’ recession could be a ‘distinct possibility’ if consumer spending slows down further, and the EU and US fall into their own recessions.
Cost of living crisis: Consumers are expected to cut spending on non-essentials
Under this weaker scenario, the UK economy is seen contracting by 1.5 per cent between the third quarter of this year and the third quarter of 2023, with consumer spending falling by 1.9 per cent.
KMPG also halved its economic growth expectations for this year – it now expects GDP growth of 3.2 per cent in 2022, compared to 7.4 per cent in 2021.
‘A sharper deterioration in the external environment – causing a recession in some of the UK’s major trading partners – coupled with a stronger fall in consumer spending in the UK, could see the UK economy entering a mild recession next year, with manufacturing and financial services among the worst affected sectors,’ KPMG’s latest UK Economic Outlook report says.
Recession worries are being sounded by a growing number of economists, who have predicted that the US economy could contract as the Federal Reserve lifts interest rates to slow inflation.
Europe’s economy also appears to be slowing, as soaring energy prices hit consumers and businesses.
With UK inflation at 40-year highs of 9.1 per cent, consumers are becoming more cautious with their spending as their finances are squeezed.
Last week, official figures showed retail sales dipped by 0.5 per cent in May as Britons cut back on food.
‘Mild’ recession: Under KPMG’s less upbeat scenario, the UK economy is seen contracting by 1.5% between the third quarter of this year and the third quarter of 2023
‘The cost of living crisis and the rising tax burden have led to a fall in consumer confidence which is set to drag on discretionary spending,’ the report states.
‘Business investment is expected to be particularly weak next year without any further government support.’
With a recession becoming more likely, KPMG expects the Bank of England to pause its interest rate hiking cycle in 2023, leaving rates at 1.75 per cent after two further increases in August and November.
‘The Monetary Policy Committee will have to weigh the risk of high inflation spilling into pay growth against the risk of a recession,’ the report says.
‘Facing such a trade-off, we think it is likely that the doves on the Committee could swing the balance towards a more gradual uplift than is currently priced in by the markets’.
Median pay rose by 12% cumulatively since 2020, against growth of 21% in house prices
KPMG also said the housing market could face a slowdown due to the ‘rapidly falling affordability’ of homes.
‘Since the start of 2020, nominal household incomes haven’t kept up pace with house prices,’ it says.
‘Median pay rose by 12 per cent cumulatively, against growth of 21 per cent in average house prices.
‘In addition, higher mortgage interest rates will increase the cost of servicing debt, reversing the downward trend seen over the past decade.’
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