The UK economy is in turmoil, but there are signs of hope

The death of Queen Elizabeth II and the period of national mourning that followed were the latest blow to Britain’s already struggling economy, but economists and analysts say there are glimmers of hope.

Britain is at a turning point. The country has just completed a 10-day period of mourning, ending with a nationwide shutdown during a public holiday to mark the late monarch’s funeral. Her death came just two days after new Prime Minister Liz Truss took office after the latter was ousted by her own party for indecent behavior, as the UK faces a cost-of-living crisis unlike anything the nation has seen in decades. Inflation has soared to its highest levels since the 1980s, around 10 percent, and the nation is facing an energy crisis due to declining Russian energy exports to Europe. The British pound is weakening around a near 37-year low against the dollar. And economic growth – the UK is now lagging behind India, a former British colony, becoming a global one the sixth largest economy and its central bank, the Bank of England, has warned that it risks falling into a recession that could last until 2024

The death of Queen Elizabeth II is the latest thing to touch the psyche of Great Britain. Although the monarchy is often seen as an anachronism, it is still an important part of UK life. It is likely to continue under the new monarch, King Charles III, who joined when the Queen passed.

“It really feels like we’ve entered a new era for the UK as a whole,” said Craig Erlam, senior market analyst at multi-asset broker OANDA. “It makes for a very interesting time for the country and its place in the world.”

In many ways, the monarch has a symbolic role, not a political one. That means the change doesn’t have to be too controversial, Erlam says. However, this is a tough act to follow. “She was an incredibly beloved figure,” he says. “I just wonder if he has the same love and devotion for King Charles.”

Britain’s growing economic pressures

When economic growth for the third quarter is released, it could show that the public holiday for the funeral of Queen Elizabeth II on September 19 dampened economic growth slightly, pushing the economy into a technical recession from two consecutive quarters of negative growth, said Steve Clayton, head of equity funds at UK-based Hargreaves Lansdown. This is due to lower productivity and economic output. A similar thing happened in the second quarter, when an extra holiday was provided to mark the Queen’s platinum jubilee and the economy shrank by 0.1%, according to data provider Trading Economics. “Whatever impact there is, it will be temporary,” he says. That’s because it probably won’t change spending on cars, TVs, food and other things, he says. On top of that some food banks were planning to close on the day of the funeral, meaning that people in desperate need may not have been able to get the essentials.

That doesn’t mean spending habits haven’t changed. Clayton noted a decline in consumer spending, likely driven by the country’s energy crisis and recent interest rate hikes. UK grocery delivery retailer Ocado, which is popular with Britain’s middle-class consumers, recently reported that its customers are spending less, sending the company’s shares tumbling. Clayton says that’s partly the harsh reality of higher home loan costs.

Many home buyers use variable rate mortgages to purchase properties. The Bank of England raised its benchmark lending rate to 1.5% from 0.35% last November. This will have a direct impact on the many UK residents with adjustable mortgages. Worse still, the central bank raised interest rates by 0.5% today – its seventh increase in a row – cutting into the household budgets of many Britons. “It’s going to be painful for those with large flexible-rate mortgages,” says Clayton.

Then there is an energy crisis that threatens to collapse half of households in energy poverty. The price of natural gas in Europe has more than tripled to 217 euros ($217) per kilowatt hour recently from around 70 euros a year ago, according to Trading Economics data. The jump happened because Russia cut off its natural gas supplies to Europe after the invasion of Ukraine. This price spike directly leads to higher electricity prices and heating costs.

Earlier this summer, Britons were warned that their energy bills could rise £6000 per year ($6,960) until April 2023, due to higher heating costs this winter. This is nearly 20% of the average annual household income after tax of £31,500, according to government statistics. Some people won’t have the money to pay their bills, experts say.

Warnings were also given that more than one in five UK companies with sales above 1 million pounds ($1.16 million) around 76,000 could go into insolvency due to higher energy bills, according to a financial firm Red Flag Alert research. Those with high energy consumption, such as industrial plants, are more at risk.

Liz Truss’s emergency economic relief plans

Two days after becoming prime minister, Truss announced a cap on household energy bills at an annual rate of around £2,500 for the next two years, with the government paying the difference. The government also unveiled a £40 billion ($45 billion) plan to help companies by imposing cap on wholesale energy prices for the business in six months. Some criticize such measures as filling the coffers of the energy companies they are expected to make huge profits as a result of rising energy costs.

The UK’s new Chancellor of the Exchequer, Quasi Kwarteng, will announce the government’s urgently needed plan to tackle the cost of living crisis on 23 September. The fiscal emergency was expected earlier but was postponed while Parliament was suspended for a month-long mourning cycle. The so-called “mini budget” is expected to include tax cuts for corporations and individuals and cuts to unnecessary regulations.

“One of the most fascinating stories is UK economic policy,” says Mark Chandler, managing director at Bannockburn Global Forex. Specifically, this means loose fiscal policy (more spending, lower taxes) and tight monetary policy with higher interest rates. This was the US policy used in the early 1980s, leading to a period of stellar growth.

Chandler also thinks the policy mix will help in part with the country’s other problem: the falling value of the pound, which recently hit its lowest level since the mid-1980s. He says the pound’s fall is largely due to the outrageous strength of the dollar. The currencies of other rich countries have fallen by similar amounts, notably Europe’s single currency, the euro and the Japanese yen. Sterling has rarely been as undervalued as it is now, Chandler says, and he expects it could start to recover once the dollar peaks, which he believes will be in early 2023.

Truss also wants to ensure a future of stable energy supplies, says Yvo Pezzuto, professor of global economics and digital transformation at the International School of Management in Paris. Higher prices lead to less demand, but that doesn’t fix the fact that the Kremlin’s natural gas cutoff is a supply problem in Europe. “They need more supply,” he says. Gone are the days of building an economy around cheap Russian oil and gas.

Unlike the rest of Europe, the Truss plan does not mean taxing energy companies’ windfall. It wants to encourage more drilling and lifted a ban on drilling for oil through hydraulic fracturing, or fracking. There are also discussions to establish a robust energy policy that embraces new technologies, including nuclear power and renewables. “Some of that will take time before the benefits show up,” says Pezzuto.

There are other signs of hope for the economy. The unemployment rate of 3.6% is the lowest since the 1970s. There are now 1.3 million job vacancies versus 1.5 million unemployed. Simply put, the labor market is tight, giving employees the power to demand higher wages, which in turn will help offset the rising cost of living. “Employers are unlikely to hold down wages for long,” says Clayton.

But there is a caveat to rising wages. If wage claims inflate too much, then the Bank of England may worry about sustained inflation. The result could be aggressively higher interest rates, said Konstantinos Venetis, director of global macro at London-based financial firm TS Lombard. If that happens, the economy could take a hit.

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