Sean O'Grady: Confidence has slumped but 'double dip' is not in the Bank's vocabulary

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The Independent Online

Outlook Why is the Bank of England so chirpy? Well, relatively. Anyone who heard the Governor, Mervyn King, talk about the "choppy" recovery and his warnings that the return to normal conditions would take many years, would never mistake him for a ray of sunshine. The Bank did in fact downgrade its growth forecast for next year from about 3.5 per cent to nearer to 3 per cent, which is significant enough.

Nonetheless for some reason the Bank is much more optimistic about the immediate chances of the economy reviving than most independent commentators, including the IMF, who thinks we'll see growth of 2.1 per cent next year, and the Fund may well downgrade that prediction further when it next reviews conditions in the autumn.

Most curiously of all, as I think their economic modelling is not so very different form each other's, is why the Bank's outlook is so much brighter than the Office for Budget Responsibility's, whose Budget time fan chart has a similar shape to the Bank's but follows a more subdued path until 2013 (the end of the Bank's horizon). Indeed, even more curiously, they appear not to agree much on the past either, though this is apparently down to a difference in interpretation of the Office for National Statistics' data, so nothing to worry about.

As you see from the charts, overlapped here for the first time, there isn't much difference in the bands of probability that the two organisations place on future outcomes. But a health warning is required here – the OBR's bands are not true predictions in an economic sense; they are apparently merely based on the range of errors in past Treasury forecasts. So they do not represent any kind of mature judgment about where we're headed, although their central forecast does, and the Bank's fan chart represents the whole gamut of possibilities. In both cases they are extremely wide, reflecting both the scale of past errors and the huge uncertainties facing policymakers right now.

Anyway, unlike the OBR, the Bank doesn't explicitly produce forecasts for the various bits of the economy or aggregates in the way that the OBR (and the Treasury used to). So we cannot know in mathematical terms whether the Bank's bullishness is down to different assumptions about, say, the response of exports to changes in sterling, or what they think wage rises will be. Here is a case – I'll put it no stronger than that – for the Bank to mirror the OBR's new culture of transparency by releasing more of that type of data. Troublemakers in the press might well then seek to highlight detailed differences between the OBR's and the Bank's view of the world, but that might not be such a bad thing, if both sides have to defend their corners and allow the public to draw their own conclusions (if they can be bothered to follow a pretty dry debate).

Still, so far the Bank seems to have had the better touch. While their forecasts for inflation have been woeful, though often for perfectly legitimate reasons, the growth forecasts have been much more accurate. The Bank understated the extent of the slump last spring, but has been pretty bang on with the pace of recovery ever since. By erring on the upside they have kept up with the tendency of the GDP data this year to surprise to the upside, most dramatically with that 1.1 per cent growth rate recorded in the second quarter, twice the pace predicted by most City economists.

The fact that the Bank has been so eerily accurate on growth (and by extension, though more trickily, the spare capacity in the economy) makes it more the odder that its inflation predictions have been so awry. It suggests that the two – GDP growth/spare capacity and inflation – aren't two sides of the same coin after all. As Deputy Governor Charlie Bean and Chief Economist Spencer Dale have hinted, the accepted relationships may have altered during this recession as firms seek to hold prices to boost their sterling-terms revenues, profitability and cash flow and, ultimately secure their survival.

I suspect the Bank's (relatively) bullish outlook may be partly framed by expectations about exports. That has two components. First, the effects of the decline in sterling since 2007, though recently trimmed back due to the collapse of the euro. There is evidence that some exporters took the benefit of the depreciation through fatter profit margins, that is by maintaining their foreign currency prices and converting them into extra sterling. That would support the idea that cash flow is driving all sort s of corporate decision making right now. But the trade data suggests as well that a combination of a weak sterling and revving eurozone economy – though with its own uncertainties – may now be feeding through into extra volumes of exports as well.

The second reason why the Bank thinks things will get better, faster, seems to be a more balanced view of the impact of the emergency Budget in June. Some of us were startled when Mr King went to the Treasury Select Committee the other day and declared that the Budget – the toughest since the Second World War – would make "no significant difference" – to the possibility of a double dip recession. The Chair, Andrew Tyrie, didn't follow up on this blithe judgement, so it was left hanging. In the inflation report and in his press conference the Governor was more forthcoming. The risks were balanced. Obviously the Budget's accelerated fiscal retrenchment would hit aggregate demand, as every schoolchild knows, and this was duly acknowledged.

However, the Governor was at pains to stress that the potentially calamitous outcome of a sovereign debt/ financial crisis has been avoided by the Chancellor's pre-emptive actions, and in Mr King's view this counts for a great deal. Critics argue that the danger was exaggerated, and they may be right. But even if it was, the idea that the nation might be unable to support its financial and payments systems for lack of funds – and with no more stopgaps to reach for – is a truly terrifying one. The chances were small, to be sure, but the consequences would have been devastating. That they would have been particularly terminal for the Bank itself is worth mentioning, but there is no doubt that the risk was real and immediate. The removal of that downside risk – at least for the foreseeable future – is obviously prized by the Bank, another quiet, almost unseen triumph. And it is reflected in their view of the economy.



Mr King was oddly stubborn about admitting that the Budget had shredded business and consumer confidence, before any of the savage cuts have been implemented. As with the failure of Lehmans in 2008, though to nothing like the same extent, there is an unmistakable link between the Budget and a collapse in confidence in all the surveys. The public are quite simply terrified of what will befall them over the next few years, and rightly so. Mr King says that it is difficult to be sure what drives changes in sentiment; maybe, but on this occasion I think we've got a pretty shrewd idea. The fact that international investors have been duly reassured is neither here nor there.

If there is an unexpected downturn, Mr King told us, the automatic stabilisers would in any case kick in, and ameliorate the situation. (Assuming that Mr Osborne allows them to do so.) They could also inject more money into the economy via quantitative easing.

So the double dip is less of a peril than many would have us believe, and treatable, but anyway the Bank doesn't do quarterly forecasting so it won't comment on that. This is strongly reminiscent of the Bank's reluctance to utter the "R word" in late 2008, and the distinct possibility of double dip, as with the recession then, will have to be explicitly acknowledged at some point.

Then again, there's nothing to be gained by the media talking down the economy, is there?

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