Trade Deficit in March

The total trade deficit (out Tuesday) is expected to have narrowed to a limited extent in March after disappointingly spiking in February. Specifically, we forecast the total trade deficit to have retreated to GBP3.0 billion in March after rising to a three-month high of GBP3.4 billion in February, from GBP2.5 billion in January and an eight-month low of GBP1.7 billion in December 2011. Even so, this would still be appreciably above the 2011 average monthly deficit of GBP2.3 billion. Within this, thetraded goods deficit is seen falling to GBP8.4 billion in March after rising to GBP8.7 billion in February, from GBP7.9 billion in January and GBP7.1 billion in December. Again, this would still be significantly above the 2011 average monthly deficit of GBP8.3 billion. Exports of traded goods excluding oil fell 4.4% month-on-month (m/m) in February while imports were up by 0.8% m/m.

The February trade data were extremely disappointing, although it needs to be borne in mind that the data can be very volatile from month to month and can also be subject to appreciable revisions. Nevertheless, at face value the February trade data and unfavorable revisions to the January figures suggested that net trade was a drag on GDP in the first quarter of 2012 and contributed to the reported contraction of 0.2% quarter-on-quarter (q/q).

Certainly, the most recent trade data have done little for hopes that the UK can achieve a sustained improved export performance, which helps the economy become more balanced. The data have fuelled concerns that UK exports will be limited in the near term at least by muted global growth. Of particular concern to UK exporters is likely ongoing contraction in the Eurozone through the first half of 2012 following a GDP decline of 0.3% q/q in the fourth quarter of 2011.

Latest survey evidence on foreign orders is mixed. On a positive note, the latest export orders balance of the Confederation of British Industry (CBI) industrial trends survey edged up to -10% in April from -11% in March, thereby staying well above its long-term average of -21%. It had earlier jumped to a six-month high of -2% in February from -26% in January and -32% in December. In addition, the Bank of England’s regional agents reported in their April summary that “export growth remained robust and had edged upward on the month”. In marked contrast, the export index of the latest purchasing managers’ survey for the manufacturing sector showed foreign orders contracting for the second time in three months in April and at the fastest rate since May 2009. While this was largely due to weakened demand from the Eurozone, orders were also reported to have weakened in April from the US and East Asia.

Meanwhile, moderate domestic demand is likely to limit UK imports over the coming months.

Bank of England Quarterly Inflation Report for May

There can be little doubt that the Bank of England’s Quarterly Inflation Report for May (Wednesday) will once again show the depressing mix of reduced GDP growth but raised consumer price inflation forecasts. The central forecasts contained in the February Quarterly Inflation Report indicated that consumer price inflation would fall from an average of 3.35% in the first quarter of 2012 to 3.0% in the second quarter, 1.9% in the fourth quarter of 2012, and 1.8% in fourth quarter of 2013. Consumer price inflation was seen edging up to 1.9% in the fourth quarter of 2014. Meanwhile, year-on-year (y/y) GDP growth was seen at 1.1% in the first quarter of 2012, rising to 2.0% in fourth quarter of 2012, 2.9% in the fourth quarter of 2013, and 3.2% in the fourth quarter of 2014.

Reported GDP contraction of 0.2% q/q in the first quarter of 2012 meant that GDP was only flat y/y, which immediately represented a marked shortfall on the 1.1% growth expected by the Bank of England. While the Bank of England has reservations about whether or not the economy really did contract in the first quarter, its growth forecasts currently still look very optimistic especially as stickier-than-expected consumer price inflation is maintaining a significant squeeze on consumers’ purchasing power. We forecast GDP growth be limited to 0.9% in fourth quarter of 2012, 1.8% in the fourth quarter of 2013, and 2.5% in the fourth quarter of 2014— appreciably below the Bank of England’s current forecasts. This gives overall GDP growth of 0.4% in 2012, 1.6% in 2013, and 2.3% in 2014.

Meanwhile, consumer price inflation averaged 3.5% in the first quarter and the Monetary Policy Committee (MPC) acknowledged in the minutes of its April meeting that the decline from last September’s peak of 5.2% had been slightly less than expected and that recent increases in oil and gas prices, as well as indirect tax changes announced in March’s budget, would keep inflation higher than previously anticipated in the short run. There was significant concern within the MPC that “above-target inflation would persist into the medium term, whether because of elevated external pressures, a rebuilding of margins or a rise in costs.” Even so, the MPC still believes that medium-term inflation should be limited by the large degree of slack in the labor market.

That the MPC did not extend quantitative easing (QE) at its May meeting, despite the first-quarter GDP contraction, was highly likely because of increased inflation concerns that will be embodied in higher consumer price inflation forecasts, both for the near term and over the two-year policy horizon in the May Quarterly Inflation Report. Significantly, the MPC had access to the Inflation Report’s new forecasts when coming to their QE decision.

Nevertheless, we expect the May Quarterly Inflation Report to highlight the major uncertainties surrounding both the growth and consumer price inflation outlooks and to leave the door open to more QE should the economy show further signs of faltering over the coming weeks and months. It may do this by limiting the increase in projected consumer price inflation to 2.0% from 1.8% on the two-year policy horizon, which would be exactly in line with the target rate.

In addition, we expect the Quarterly Inflation Report to indicate that interest rates are unlikely to rise from the current level of 0.50% until at least late 2013, and very possibly not until 2014.

Unemployment in April

Labor market data on Wednesday are likely to be mixed again.Claimant-count unemployment is forecast to have risen by 5,000 in April, which would be up modestly from an increase of 3,600 in March. While this would be a moderate rise, it would nevertheless be an 18th successive increase and take the number of claimant-count unemployed up to a 30-month high of 1.618 million in April, from a 20-month low of 1.4513 million in October 2010. In fact, this would take claimant-count unemployment very close to the 12-year high of 1.6185 million suffered in October 2009. The claimant-count unemployment rate is expected to have edged up to 5.0% in April, having stood at 4.9% since September 2011.

The number of jobless on the International Labour Organization (ILO) measure is seen falling by 15,000 in the three months to March to stand around 2.655 million. The number of ILO jobless is seen rising modestly in March itself, so the drop would be less than the 35,000 decline seen in the three months to February, when the number of ILO jobless fell to 2.650 million from a 17-year high of 2.685 million in the three months to November 2011. The ILO unemployment rate is seen moving up to 8.4% in the three months to March after dipping to 8.3% in the three months to February. ILO data are also likely to show thatemployment rose by around 50,000 in the three months to March to 29.179 million. Nevertheless, this is likely to have been inflated by increased part-time jobs and it is very possible that full-time employment was down modestly. Employment is down from a peak of 29.279 million in the three months to May 2011, which was the highest level since end-2008.

Despite the improved overall tone of recent labor market data, we still expect unemployment to trend higher over the coming months as a consequence of extended soft economic activity, heightened business caution, and public-sector jobs being pared substantially. We doubt the private sector will be able to fully compensate for the public-sector job losses until at least the latter months of 2012 and, more likely, in 2013. This doubt is heightened by the fact that we expect the economy to continue to struggle for growth in the near term, before starting to improve on a more sustainable, but gradual, basis during the second half of 2012. Furthermore, recent elevated oil prices are putting pressure on companies to limit their total costs by containing their wage costs, be it through holding down pay or keeping their labor forces as tight as possible. Even if firms do not actually trim their workforces, they may well look to try to meet any increase in business through making greater use of the workers they have already or through using part-time or temporary staff.

Latest survey evidence indicates that companies are currently cautious in their employment plans. For example, the Bank of England's regional agents reported in their April survey that “private sector employment intentions suggested that employment was likely to be broadly flat over the next six months.” In addition, a monthly survey by KPMG and the Recruitment and Employment Confederation (REC) indicated that permanent job placements slowed to a three-month low in April.

Nevertheless the peak level in unemployment now looks like it will be less than we had previously feared. We had suspected that the number of jobless on the ILO measure would reach a peak around 2.90 million in the early months of 2013, giving an unemployment rate of 9.0%. Nevertheless, in our May forecast we trimmed the peak in unemployment to around 2.82 million in the second quarter of 2013, which would see the unemployment rate top out at 8.8%. The number of unemployed is forecast to start heading gradually lower on a sustainable basis from around mid-2013.

Average Earnings in March

Underlying average earnings growth (Wednesday) is expected to have remained very weak in March and substantially below past norms. This is the consequence of relatively high unemployment, workers' job insecurity, and a pressing need for many companies to limit their costs in a very challenging environment. The recent rise in input prices driven by elevated oil prices has been a further reason for companies to try to limit their overall costs by containing their wage costs.

Specifically, underlying average weekly earnings growth (regular pay excluding bonus payments) is seen moderating to 1.5% in the three months to March from 1.6% in the three months to February and 2.0% in the three months to December. This would be the lowest level since mid-2010. Annual average weekly earnings (total pay) growth is expected to have remained at just 1.1% in the three months to March after falling to this level in February from 1.3% in the three months to January and 1.9% in the three months to December. This is also the lowest level since June 2010 and reflects lower bonus payments compared with a year earlier as well as muted underlying earnings growth.

These earnings growth rates are substantially below the 4.5% level that is generally considered consistent with the Bank of England's 2.0% consumer price inflation target. They are also still well below current consumer price inflation levels (3.5% in March), so consumers’ purchasing power continues to be squeezed substantially.