Spring growth was a flash in the pan, warns NIESR

Britain's economy is set for a "sluggish" recovery dogged by "dismal" prospects for consumer spending, economists are warning.

In the run-up to today's publication of the Government's Comprehensive Spending Review, which is set to slash tens of billions of pounds from public spending, the influential National Institute of Economic and Social Research (NIESR) cautioned yesterday that the "heady" 1.2 per cent growth in the second quarter was just "a flash in the pan".

Similarly, the latest manufacturing survey by the Confederation of British Industry (CBI), also out yesterday, showed that Britain's industrial recovery lost momentum in the third quarter, as slowing global growth put a brake on all-important export orders and domestic demand failed to take up the slack. According to the NIESR, UK economic growth will drop back to just 0.5 per cent this quarter before becoming "even more subdued" by the end of 2010 and throughout 2011, dragging total gross domestic product growth down to 1.6 per cent both this year and next.

The slowing recovery is caused by a retrenchment in government and consumer spending, says the NIESR. On the consumer side, inflation averaging 2.8 per cent will squeeze budgets and spending as households face the "dismal prospect" of two successive years of falls in real disposable income, it warns.

On public spending, there is a "one in five chance" that today's cuts will push output into negative territory during 2011, in which case the Bank of England would be wise to stimulate the economy with a second round of quantitative easing, the NIESR said.

But the think-tank also warned against too great an imbalance between fiscal tightening and loose monetary policy. "We suspect spending cuts will be delayed and their scale reduced as compared to the budget plans," it added. "If the cuts were half the size and direct taxes were raised to fill the gap, then output growth would be 0.25 percentage points higher in 2011 and 2012, and the same budget target would be reached in 2015."

The NIESR's predictions for growth rest on re-stocking of inventories this year and the expectation of rising trade and increasing business investment next year. But listless GDP growth will hit the tax take, meaning public-sector borrowing will fall to only 3.6 per cent in 2014-5, according to the NIESR, rather than the Office for Budget Responsibility's forecast of 2.1 per cent.

Meanwhile, the CBI's Industrial Trends survey showed the number of manufacturers reporting orders below normal levels jumped to a net balance of 28 per cent in October, from just 16 per cent in July. The rate of new orders is also growing more slowly, with a net balance of 11 per cent of firms reporting a rise, down from 18 per cent in July. Business confidence is also lacklustre, dropping last month to its lowest level since July 2009.

However, the CBI remains broadly upbeat. New orders are expected to gather pace again, with a balance of 18 per cent of respondents expecting a rise in output volumes. The majority of the optimism focuses on exports.