Chief Economist’s Weekly Brief – Never a dull moment

A former Bank of England Governor once said of central banking that “boring is best”. Last week though, central bankers were once again hogging the limelight. First off, the US Federal Reserve, which having raised rates must now work out whether the economy can support them. Second the Bank of Japan, which joined the negative rate club. And with all eyes on the Bank of England this week, “boring” seems a distant memory.

Out with a bang. The UK economy rounded off 2015 in decent shape, expanding by 0.5% in the final quarter. That takes full year growth to 2.2%, which admittedly looks sluggish compared with a feisty 2.9% rise in 2014, but isn’t too far short of the 2.6% post-war average. The clear stand-out sector was UK services, which ended the year with an impressive 0.7% rise. That was strong enough to offset a quarterly fall in both industrial production (by 0.2%) and construction (by 0.1%). Dreams of a rebalanced economy may not only be misplaced but also mistaken.

Ticking. UK house price growth slowed to 4.4%y/y in January according to Nationwide. This brings the average price of a house to £197k. Meanwhile, the major high street banks approved 44k mortgages in December, around 600 fewer than in November. Despite this, the total value of mortgage balances grew by 2.2%y/y, the fastest rate since 2011. But before getting too excited, this is well below the long term average of 6.0%y/y. The mortgage market is ticking, not surging.

A whimper. The UK ended 2015 on a strong note. The US was more of a whimper. Growth was just 0.7% annualised in Q4 2015, down from 2.0% in the previous quarter. The biggest contribution came from the consumer, although the 2.2% growth rate was cooler than the Q3 figure. Investment fell as energy companies enacted cuts on the back of lower oil prices. Meanwhile the stronger dollar hurt exports. The world continues to wait on the US economy moving up through the gears.

A grumble. The start of 2016 has not been a roaring one for the US. The PMI index of business activity said that the economy grew in January, albeit at a slower pace than in December. House prices grew by a respectable 5.8%y/y, par for the course since mid-2014. Consumer confidence held steady and inflation expectations remained stable at 2.5%-3%. The first quarter of the year is traditionally quite a weak one for the US economy. Let’s hope that this year it can do better.

On target? Having hiked rates in December, the Fed last week kept them on hold, saying the US economy continues to grow, albeit more slowly. It is keeping a close eye on global economic and financial developments but said no more than that for fear of frightening the horses. In an irony-free announcement, it confirmed its long-term policy is to keep inflation close to 2%, saying it would be concerned if the rate were consistently above or below that number. Inflation last saw 2% nearly four years ago.

In da club. Japan joined the negative interest rate club (a fellowship including Sweden, Denmark, Switzerland and the European Central Bank) by cutting one of its key interest rates to -0.1%. The central bank is hoping it will dissuade lenders from parking cash with it and use it to lend to businesses and individuals instead. As to why, the Bank of Japan is a bit more concerned about global developments, much like the Fed. But it’s also struggling to push inflation up to its target of 2% and banish the deflation that afflicted the economy for years.

Confidence wanes. They say start the year the way you mean to go on.  Last year German firms began the year in upbeat mood with confidence rising as the year progressed. But sentiment now seems to be on the turn. The IFO survey’s business climate index fell to an 11-month low in January. While current business conditions remain favourable, German firms in all sectors, bar retailing, expect the situation to deteriorate in 2016. Manufacturers are particularly gloomy. This isn’t surprising.  After all, the sector is very exposed to the slowdown in emerging markets.

Laying foundations – The latest figures from the National House Building Council (NHBC) reveal that 2015 was the best year for new home registrations, or housing starts, since 2007. Last year NHBC housing starts, a subset of all starts, increased by 7% y/y with 9 out of 12 regions across the UK reporting growth.   Despite this growth UK housing starts remain 22% below 2007’s pre-downturn peak. Northern Ireland posted the largest rise of any region at 30% y/y and the highest number of starts since 2009.  Notwithstanding the big percentage gains from an abnormally low base, the pick-up in activity is welcome news. However, the house building recovery has still a very long way to go. Last year’s figure remains a whopping 70% below the corresponding figure a decade ago. Even if the industry operates at maximum capacity, the rate at which new homes are built will remain well below what is required for the foreseeable future.

Build and they will come – Few sectors within the Northern Ireland economy have returned to their pre-downturn highs. The hotel industry, however, is one sector that continues to buck this wider trend.  According to the latest figures from DETI, the number of hotel rooms and beds sold rose by 3% and 10% respectively last year.  This was despite the headwind of an uncompetitive sterling / euro exchange rate. Last year’s growth takes the cumulative rise in rooms and beds sold over the last 4 years to 18% and 21% respectively. Northern Ireland hotel room occupancy rates averaged 67% last year up from 65% in 2014 and up by 10 percentage points since 2011. Against the backdrop of rising supply, hotel occupancy rates are now at levels not seen since 2007. Hoteliers are capitalising on the rising demand with a raft of new hotels set to enter the market in the next two years.

Tills ringing – The Republic of Ireland recouped the output it lost during the recession, in terms of GDP, some time ago.  However, the domestic economy still remains in catch-up mode.  As of Q3 2015, personal consumption expenditure, a component of GDP, remained over 3% below the 2007 high. However, the latest retail sales figures for Q4 signal that this gap is closing. Overall, retail sales volumes advanced by 8.3% y/y in 2015 – the best year of growth since 2000.  A favourable euro / sterling exchange rate meant that the cross-border leakages of yesteryear have largely dried up.  Instead any cross-border retail trade, in aggregate, was moving in a North to South direction. Despite this stellar growth performance, retail sales in the Irish Republic remained 6.5% below their 2007 peak in terms of volume and 17% lower in terms of value of sales.

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