Like a Christmas pantomime show, the actors might change, but the UK economic script has been painfully predictable in recent decades. The economy has seen productivity collapse versus global peers since 2008, private investment is still 20% below levels five years ago, and yet the consensus which in Q1 feared a ‘triple dip’ recession is now scrambling to upgrade 2014 growth forecasts to 2.5-3%. The delayed impact of the BOE’s liquidity schemes, the controversial government mortgage guarantees as well as a frenzied London housing market creating a ripple effect largely explain the sudden change in fortunes, but even a brief consumer led growth spurt risks highlighting the country’s unresolved structural imbalances.
The UK, which has already seen remarkably sticky cost push inflation since 2008 well above the 2% BOE target, may be the first major economy to make the transition to the excess demand variety of inflation, as domestic credit demand and availability rebounds. Mortgage lending is flat lining in y/y growth terms, but that is distorted by on-going debt reduction by existing mortgage holders – gross mortgage lending hit a 5-year high of £17.6bn in October, a five-year high and up 9% m/m and 37% y/y; total gross lending looks set to reach £170bn this year. No other major developed country aside from Australia has experienced sustained residential price inflation of the magnitude seen in the UK over the past 20 years, and that boom has been focused on the capital and wider Southeast corner of the UK. London prices have risen 120% in 8 years and roughly quadrupled since the late 1990s; depending on whose data you use, London prices are now 20-25% above their 2008 peak. Prime London real estate has joined the collectibles and bullion hoarded in free ports and bank vaults globally by the super wealthy elite as a tax efficient repository for surplus capital. While on a national level there is no sign of overheating, prime London has attracted global excess liquidity flows, particularly from Asian investors, and is increasingly vulnerable to a reversal if local funding costs or UK capital gains taxes rise (as planned and/or local currencies weaken versus the GBP. On ONS regional data, several peripheral UK regions are seeing flat to falling prices and prices in the North are still 10% below their 2008 peak. House prices fell 14% from the end of 2008 to the middle of 2009 across the UK but have now returned to their previous peak nationally.
The ratio of household debt to incomes is now projected by the independent Office of Budget Responsibility to rise to 160% by 2018. Households are already running down precautionary savings and revolving credit appetite is picking up, and the OBR expects that trend to continue, one forecast I’d unreservedly agree with. Meantime, corporates are hoarding cash (in the case of banks, by regulatory diktat), and the declining ROE on the FTSE 350 index helps explain its underperformance against developed world peers this year. Is a current account deficit likely to be in excess of 4% next year GBP positive? As I’ve noted before, the UK has a lot more in common with India than a taste for curry including very weak corporate investment and productivity trends. At some point, investor perceptions will shift and focus on the structural macro imbalances reflected in sustained twin deficits rather than cheering the high frequency data, with adverse implications for sterling and gilt yields.