UK Economic Revival Predicted: Falling Inflation and Tax Cuts Set Stage for Growth

As the United Kingdom strives to overcome the economic challenges it faced in the past year, a new study by the EY Item Club suggests that a positive turnaround may be on the horizon.

The forecast, sponsored by the renowned accountancy firm EY, predicted that falling inflation, potential interest rate cuts and potential tax reductions will pave the way for economic growth in the latter half of the year.

This anticipated boost is expected to provide Prime Minister Rishi Sunak with the opportunity to implement pre-election giveaways, setting the stage for a dynamic economic landscape in 2024 and 2025.

The EY Item Club's winter forecast signalled a shift away from the prolonged economic stagnation witnessed in recent times. The report suggested that the factors contributing to this positive outlook include falling inflation, potential interest rate cuts and tax reductions, all of which are anticipated to create momentum for growth in the coming years.

Additionally, this optimistic analysis is likely to bolster the government's confidence in implementing further economic measures, including potential tax cuts.

PM Rishi Sunak and Chancellor Jeremy Hunt have already hinted at the possibility of tax cuts in the upcoming budget statement in March. This followed the reduction in national insurance announced in the November 2023 autumn statement, which took effect on January 6, 2024.

The EY Item Club's forecast suggested that additional tax cuts might be on the horizon, possibly featuring in the 2024 autumn statement, ahead of a general election expected later in the year, contingent on the predicted economic recovery.

Despite concerns about a potential recession in the latter half of the previous year and the prospect of negative growth in the first quarter of 2024, the EY Item Club's report remains optimistic. It downplays the likelihood of a recession, stressed upon the underlying signs of recovery that are expected to manifest soon.

The report revises the GDP growth forecast for 2024 from 0.7 per cent (as predicted in the autumn forecast) to a more optimistic 0.9 per cent. Additionally, the UK economy is now expected to grow by 1.8 per cent in 2025, up from the 1.7 per cent predicted in October.

The report acknowledges the downgrading of last year's growth from 0.6 per cent to 0.3 per cent, attributing it to a loss of momentum in the second half of the year. This slowdown was primarily attributed to persistently high inflation and sharply higher interest rates. However, the forecast suggests that the economic situation is poised for improvement, provided certain conditions are met.

While the report expresses confidence in the expected economic revival, it does not completely rule out the possibility of a recession. The potential risk is associated with the contraction of the economy by 0.3 per cent in the third quarter of 2023, and the recent revelation of a surprise 3.2 per cent drop in retail sales in December further underscores the fragility of the current economic landscape.

Economists warn that such weakness in consumer spending could potentially drag the economy backwards in the fourth quarter.

Financial markets, however, appear optimistic about the future. It is anticipated that the situation will improve with the expected decline in inflation from an average of above six per cent in 2023 to two per cent by April. Moreover, there is anticipation for the Bank of England to commence interest rate cuts in June, providing further stimulus to the economy.

A recent report by Lloyds Bank adds weight to the positive sentiments. It reveals that seven out of 14 sectors in the economy reported growing demand, as measured by new orders, in December 2023. This is more than twice as many as in November 2023, signalling a potential turnaround.

The report attributes this revival to a bounceback in the previously stagnant property market, increased demand for flights and holidays, and rising disposable incomes after a prolonged period of decline.

Furthermore, the Lloyds Bank report notes: "Business optimism reached the highest level since May as 12 out of 14 sectors reported higher confidence levels about their output prospects for 2024 compared to the same time the year before."

This surge in confidence indicates that businesses across various sectors are optimistic about their future output, hinting at a broader economic recovery.