Economic forecasts: These are the economy's darkest days since New Labour came to power

  • @_seanogrady

Despite the assurances about the resilience of the UK economy and its relatively healthy performance by comparison with other large industrialised nations, there was no room for doubt in what the Chancellor told the nation yesterday: we are set for lower growth, higher inflation and a worse trade balance than was thought possible even six months ago.

The performance of the economy on these key measures over the next year or two will be as bad as anything seen since New Labour came to power in 1997. On the worst reading it will be the most dire time for the economy since the recession of the early 1990s. Even so, many independent observers thought the Chancellor was still being unduly upbeat in his outlook.

Mr Darling downgraded the Government's growth forecast for this year for the second time in six months. It was cut by another quarter point yesterday, to a range of 1.75 to 2.25 per cent. That was on top of a similar reduction in the pre-Budget report last October. If the economy does turn out to grow at the bottom end of that estimate, it will be more sluggish even than the previous nadir, of 1.8 per cent in 2005, and the worst showing since 1993, when the country was crawling out of recession.

Most economists guess growth will be a shade lower than the low end of the Mr Darling's projections – 1.7 per cent is the Treasury's own figure for the "consensus forecast".

Stephen Gifford, chief economist at accountants Grant Thornton commented: "GDP is likely to grow by only 1.7 per cent over the course of the year. Inflationary pressures will also remain a serious concern with the Bank of England unable to cut interest rates as fast as it would like to shore up the economy."

However, many observers were even more scornful of the Chancellor's claims that the economy would quickly bounce back in 2009, a likely election year. Here the growth estimate was also downgraded by a quarter percentage point, to a range of 2 to 2.25 per cent, but that remains much higher than the current external consensus – with the Treasury's calculation of the general City and academic view put at 1.9 per cent.

For 2010, Mr Darling maintained his GDP growth estimate at 2.5 to 3 per cent.

Roger Bootle, of Capital Economics, commented: "The Chancellor has reduced the projections for the ratio of tax receipts to GDP. This change is realistic but there are doubts as to whether it went far enough. Economic growth will probably be weaker next year than this and I forecast it a good 1 percentage point lower than the Chancellor. There is a substantial risk that growth proves to be even weaker than this, and/or that the period of weak growth extends into 2010 and beyond. My central forecast envisages borrowing hitting £50bn in 2009/10, but on this more pessimistic economic scenario it could easily be tens of billions higher."

The Liberal Democrats' Treasury spokesman, Vince Cable, called Mr Darling's forecasts "wildly optimistic" while the director general of the CBI preferred to term them "pretty ambitious".

Mr Darling was also forced to admit that inflation will turn markedly higher this year. A number of figures in the Bank of England – from the Governor Mervyn King down – have been warning that price rises are likely to spike sharply higher than the official target of 2 per cent later this year, perhaps reaching 3 per cent – at which point the Governor would be forced to send a letter of explanation to the Chancellor.

For the calendar year 2008, inflation is officially forecast by the Chancellor to average 2.5 per cent, up from the pre-Budget report estimate of 2 per cent. For the fiscal year 2008/09 the Government says inflation will average 2.75 per cent. With the annual rise in the Consumer Price Index (CPI) running at 2 per cent now, that implies a rise to beyond 3 per cent later this year.

Mr Darling's planned increases in alcohol duties will raise headline inflation, and may well bolster heightened inflationary expectations, unhelpfully for the Bank of England.

Alan Clarke, of BNP Paribas, added: "It is not an entirely comfortable position for the Government in light of discontent surrounding sub-2 per cent pay deals for various public sector workers. So much so that the Chancellor actually avoided mentioning the 2.5 per cent forecast for CPI during 2008 – merely mentioning that inflation would temporarily pick up in the near term."

The predictions for the UK trade deficit are if anything even less comforting. In the pre-Budget report the UK's current account deficit on the balance of payments was predicted to be £41bn in 2008, rising to £44.25 bn in 2010. However, a combination of high oil, commodity and food prices, as well as the UK consumer's traditional preference for imported wares, has pushed those estimates much higher in the Budget's Red Book.

Now Mr Darling sees the deficit rising to £72.25bn this year, though declining to £66.25bn by 2010. This represents between 4 and 5 per cent of GDP and will be a significant deflationary influence on the economy.