The credit crisis and the resulting global economic recession will ensure that governments round the world face significant public finance deficits and rising debt levels for many years, forcing policymakers to make unpalatable choices on taxation and spending.
The International Monetary Fund warned last week that the recession was likely to be unusually long and severe and the recovery sluggish.
The IMF also said that expansionary fiscal policy seemed particularly effective in shortening recessions associated with financial crises and in boosting recoveries.
However, the depleted condition of the UK’s public finances make it unlikely that Alistair Darling, the chancellor of the exchequer, will be able to announce any further significant fiscal stimulus, with public sector net borrowing expected to balloon £175bn (12.4 per cent of gross domestic product) in 2009-10 and net debt expected to rise towards 75 per cent of GDP over the next five years.
The collapse in UK government revenues has been staggering as a result of lower value added tax receipts as consumer spending has slowed, not to mention weaker corporation tax receipts and lower income from stamp duty owing to the housing market slowdown.
The concern is that future efforts by regulators to stop another repeat of the credit boom could mean a long-lasting hit to government revenues from those sectors (the property market, share prices, city bonuses and financial industry profits) that previously were making growing contributions to the Treasury’s coffers.
This week’s data releases promise better news on UK inflation, which will be overshadowed by rising unemployment and weaker consumer spending.
UK inflation data for March, due out on Tuesday, are expected to show the headline consumer prices measure falling from 3.2 per cent in February to 2.9 per cent, with further declines likely to come owing to lower energy prices.
Labour market data on Wednesday are likely to show that the claimant count measure of unemployment increased by 102,000 in March while the International Labour Organisation unemployment rate is seen rising from 6.5 per cent in January to 6.8 per cent in February.
The headline measure for earnings growth is seen dropping from 1.8 per cent in January to 1.4 per cent in February, reflecting weakness in financial sector bonus payments and the increasing prevalence of pay freezes.
UK March retail sales volumes, due on Friday, are expected to fall 0.5 per cent, helping the year-on-year rate rebound from 0.4 per cent in February to 1.5 per cent. The data may be distorted by the effects of Easter’s falling in April this year compared with March last year.
Rising unemployment clearly points to further weakness ahead for consumer spending.
The initial estimate for first-quarter UK GDP, which is due on Friday, is expected to show that the economy contracted 1.5 per cent, which would take the year-on-year decline from -2 per cent in the fourth quarter to -3.8 per cent.
The chancellor will certainly have to cut his growth forecasts for 2009-10 in the Budget on Wednesday while retaining upbeat projections beyond that in order not to panic bond market investors about the ability of the UK economy to service the swelling levels of government debt.
Michael Saunders, economist at Citigroup, warns that the deficit is likely to rise further in 2010-11, reaching about £190bn (13.4 per cent of GDP) as the costs of servicing the debts spiral, unemployment soars and revenues lag.
“These would be, by a long way, the highest fiscal deficits for over 100 years outside the first and second world wars,” says Mr Saunders, who argues that the UK’s fiscal position is worsening so rapidly that any stimulus measures in the Budget are likely to be modest in scale or merely gimmicks.
“When it is most needed, fiscal policy will not be able to act,” says Mr Saunders. “This is a major policy failure.”
Canada is due to announce its latest decision on interest rates on Tuesday and analysts are divided over whether the central bank will hold at 0.5 per cent or cut by 25 basis points to 0.25 per cent. But with Canadian rates already at very low levels, the market is really looking for any further guidance on whether Canada will join the quantitative easing club in shifting the emphasis of its monetary policy from targeting the cost of money to targeting the supply of money via unconventional measures. The Bank of Canada has already indicated that it will detail a framework through which such a policy would be executed in the monetary policy report published in April.
Sweden is expected to cut interest rates by 75-100 basis points on Tuesday and also to make an announcement of some form of quantitative easing.
In the eurozone, the key question will be whether the survey data due for release this week will fuel the view that the European Central Bank’s current position on interest rates and coolness towards quantitative easing is proving a hindrance to recovery.
Germany’s IFO business climate is expected to rise slightly to 82.4 in April from 81.6 in March, which was a post-reunification low from 82.1. German industry is continuing to suffer due to the slump in global trade flows and this is likely to be reflected in the preliminary estimate for the manufacturing purchasing managers survey, seen rising from 32.4 in March to 33 in April.
The eurozone manufacturing and services purchasing managers surveys are also only expected to show that activity continued to weaken in April, though the rate of decline should have eased.
The manufacturing PMI is seen rising from 33.9 in March to 35.4 in April while the service-sector PMI is forecast to increase from 40.9 to 41.5. A reading below 50 indicates a contraction compared with the previous month.
In the US, the latest Beige Book showed some signs of conditions in the property market stabilising, helped by tax credits for homebuyers, lower mortgage rates and more affordable prices.
Existing home sales, due on Thursday, are expected to ease from 4.72m (annualised) in February to 4.70m in March, while new home sales, due on Friday, are seen rising slightly from 337,000 to 340,000.
US durable goods orders for March, due on Friday, will be of interest as a stronger-than-expected rebound of 3.4 per cent in February encouraged hopes that the rapid decline in capital investment could be slowing. The consensus forecast is for a fall of 1.2 per cent on the month. This would take the year-on-year decline from -23.8 per cent in February to -24.7 per cent in March.
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