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Economic recovery – mirage or oasis?

Six months ago, after nearly five years in the desert, we were wondering if there really was hope on the horizon. Now we can feel it happening, and we’re seeing some of the consequences that have to be managed to keep it sustainable. Says Stephen Barter, Director at KPMG's Management Consultancy.

In October, the IMF revised upwards its forecast for UK GDP growth to 1.4 percent for 2013 and to 1.9 percent for 2014, more than any other G7 economy.  In the same month the RPI measure of inflation fell to 2.5 percent and the CPI measure fell to 2.2 percent, the lowest for two years. Interest rates remain at 0.5 percent (unchanged since March 2009), although in market trading, longer-dated bond yields have started to rise. The Governor of the Bank of England’s ‘forward guidance’ signals no increase in short-term interest rates until unemployment falls below seven percent. All in all this seems to be a fine set of numbers to boost confidence, so where’s the catch? Along with the Recruitment and Employment Confederation, we have for the past 17 years been producing a monthly survey of recruitment consultants, which measures the outlook for jobs. It’s proven to be a reliable indicator of emerging trends. Since the 2012 Olympics, jobs growth has been accelerating, initially in temporary posts, and for the past year in permanent jobs too. Initially in the Midlands in sectors such as healthcare; latterly, the growth has spread to other regions and industry sectors, although London’s figures have lagged behind the rest of the country. Inevitably, there has been a bias to private sector recruitment, as public sector spending remains constrained. In the past months, recorded vacancies – which signal employers’ intentions -have accelerated to reach their fastest growth rate for six years. So far, so good.

But three significant factors are emerging from the survey. Firstly, skills shortages are appearing, particularly amongst engineering, construction and financial support staff. There are shortages too in various blue collar roles, such as temporary drivers. These shortages are widespread, and are mirrored in the sectors showing the strongest employment demand.

Secondly, permanent staff salaries are now rising at their fastest rate since December 2007, particularly in the Midlands. Real wages have been falling since the start of the recession, which has hurt many households. So this narrowing of the wage/inflation gap, no doubt fuelled by the skills shortages, but helped by lower inflation, could trigger positive real wage growth during 2014. And lastly, as employment has increased, so the rate of decline in staff availability (ie people putting themselves on the job market) has accelerated to the sharpest level for six years. Why is this happening? It could be that people are still worried about job security, despite the potentially higher salaries. There is also evidence of people, particularly the older middle-aged, deciding to leave the jobs market altogether. A similar trend is also being reported in the US. So what does all this mean for the economy? The fall in unemployment seems to be accelerating, which means that the Governor of the Bank of England’s 7 percent threshold for considering interest rate adjustment could be reached earlier than previously expected. The UK unemployment rate was 7.6 percent in November. Against this, the Bank of England reports that UK household indebtedness continues to grow and is near to “historically high levels”.

 So the ability of many households, particularly middle class households with bigger mortgages, to withstand material increases in interest rates, ahead of further growth in earnings and pay-down of debt, is very challenging. Consequently, even if the 7 percent level is reached within the next 12 months, the political and economic pressure to keep interest rates low ahead of a General Election in 2015, will be very strong. The bigger mystery surrounds business investment. During the recession, most companies have been cutting costs, deferring capital investment and hoarding cash. Some businesses will be reliant on outdated plant and machinery and buildings. Stronger capital investment is the ‘multiplier’ on jobs growth and consumer spending, which boosts GDP and increases the capacity for export growth. Yet businesses have been very slow to bring forward their investment plans.

This is ultimately about confidence, the day when the CEO wakes up and thinks ‘let’s do it’. and there are now some signs that companies are dusting off their investment plans. According to ONS data published last month, business investment grew by 1.4 percent between the second and third quarters of 2013. In a recent BoE survey, businesses who said that uncertainty was discouraging investment was about 5 per cent, down from about 50 per cent in a similar survey a year earlier. Although small businesses are still struggling to borrow money on reasonable terms, many are indicating that they plan to invest more. The latest canvass of CBI member firms forecasts business investment to grow by 6.9 per cent in 2014 and by 8.3 per cent in 2015. While it is possible that investment is already recovering more swiftly than it appears, sluggish European growth will remain a drag on UK exports, which must look increasingly to Asia and other parts of the world for sustainable demand. So the UK’s recovery is likely to depend on the growth in consumption for a while yet – predicated on further jobs and real wage growth, and continuing favourable interest rates.

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