City Trading Post

The Bank of England has, as expected, cut the Base Rate of interest by 25bps to 5.25%. The UK outlook for the UK economy appears to be poised between two possible scenarios, both of which the Bank’s Monetary Policy Committee surely considered. 

At one extreme, the UK could suffer further from the consequences of the credit crunch, suffering vicious circle of housing market losses, reduced consumer spending, increasing unemployment, and recession. At the other extreme, the credit crunch may stop crunching, but increasing commodity prices and energy costs lead to an upward spiral of inflation and, in an effort to stop it, increasing interest rates, against a background of weakening economic performance.

Neither scenario looks particularly rosy, nor is it clear yet in which direction the economy is heading. In reality, it is likely that the economy will totter along a middle course: not particularly strong economy, stagnant housing market but no crash, gently depreciating currency, a bit of inflation. The Bank, unless things really do come off the rails, should be able to manage through the coming period of weakness and uncertainty without having to do anything particularly radical with interest rates.

We are entering a period of consolidation, rationalization, and assimilation: wages need time to catch up with house prices, the real value of the government’s vast debts needs to be eroded away by inflation, Sterling needs to settle down at a more realistic level where longer term trading patterns are balanced in terms of in- and outflows. The world has leapt ahead in the last few years, and we find ourselves in a new era in which the USA is no longer top dog. That’s a big change and it’s going to take some time for the necessary adjustments.

In a nutshell, the UK economy is doing ‘okay’. We do not expect any disasters or meltdowns. But the party is definitely over. Over the next couple of years the UK economy will settle down and start growing again. Individuals should at this point take stock, review their own personal positions, and get their own houses in order.
                                                                   

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