Economics Weekly: Focus on UK 2008 Budget and Inflation Data

The 2008 UK Budget is presented by Chancellor of the Exchequer, Alistair Darling at 12:30 on Wednesday. His speech is likely to emphasise the view that public finances will deteriorate as the economy slows. We look for a downward revision to the Treasury's GDP growth forecast to 1.75% - 2.25% for this year and to 2.25% - 2.75% in 2009. The CPI inflation forecast will almost certainly be revised up from 2% in the November pre-budget report.

Inflation-related data will underpin the view that global supply-side pressures are mounting, see charts 1 and 2. US import prices may rise to 14% pa in February, due to higher commodity prices and the weaker dollar. In the UK, producer input prices for February could show firms' input costs rising close to 20% on an annual basis. With prices of major commodities breaking new highs again last week and as inflation expectations rise, there is some evidence that this is pushing up retail price inflation.

US and UK trade data for January may show some stability. But the current account deficits remain large as a share of GDP, at 5.4% and 5%, respectively contributing to currency weakness.

ECB President Trichet last week raised the eurozone's 2008 CPI inflation forecast to 2.9% from 2.5% three months ago; February CPI growth should be confirmed at 3.2% on Friday. But slower growth is also a worrying problem, and explains the ECB's reluctance to raise interest rates, despite CPI inflation currently well above the 2% ceiling. The German ZEW survey for March could fall below January's low of minus 41.6.

Events last week highlighted growing economic weakness in the US but rather stronger growth elsewhere. This is reflected in aggressive monetary easing by the US Fed - cuts in official funding rates and extentions to Term Auction Facilities (TAFs). By contrast, the ECB and the UK are treading more cautiously, fearful of CPI inflation escalating via wage pressures and, this month, voting to keep official interest rates on hold. Many fast growing economies such as Australia, New Zealand, Norway, India and China have been tightening policy because of inflation worries. Uncertainty about whether the US will have a recession and a credit crisis is contributing to a high level of financial market volatility. Arguably, a weak dollar is just what the US needs to slash its trade deficit. But soaring energy and raw-materials prices are hindering the speed of correction and leading to a build-up in underlying inflation pressures. This places the US Fed in a very difficult position going forward and offers little assurance to financial markets.

Other key economic data includes UK and EU-15 industrial output, which may have increased in January. In the US, despite the sharp deterioration in the NFP jobs market, February advance retail sales may rise to 4% pa, 5% excluding autos. Also, the first release of the University of Michigan index will give an indication of the level of US consumer confidence in March. The BRC retail sales monitor will provide useful information on the health of UK consumer spending in February.

Chart 1: US, UK & EU CPI inflation is trending upwards.

Chart 2: Supply side inflation pressure is building. This is raising consumer price expectations.

Full report here

Lloyds TSB Bank