2022 on knife edge with tax, inflation and Covid

IT could be a tricky few months ahead for both the economy and living standards. So, how will 2022 likely turn out? They say that forecasting, like gambling, is a mug’s game … and there is some truth in that. Forecasters rarely, if ever, get it right. Nevertheless, they always have a plausible excuse for why they got it wrong!

And, of course, what happens to the economy will depend in large part on the course of the pandemic, and nobody can predict what this will be.

But, let’s try anyway.

Here is the optimistic version. Omicron is clearly a much milder version of Covid, is proving less dangerous in terms of deaths and severe illness, and therefore hopes are raised that we can come to live with it as we do the common cold without hitting the panic button every winter.

To that extent it seems likely that those sectors hardest hit by restrictions, such as leisure, will soon be able to operate normally again.

If the Covid dragon can be slayed then uncertainty – the curse of economic growth – will hopefully ease.

Companies that had been delaying expansion plans will, it is suggested, start to implement them. That should lead to a rise in capital spending and in employment – with the latter helping consumer spending to grow.

By how much though?

The average forecast, as surveyed by the Treasury, is for real GDP growth of five per cent. That would be down from 2021’s expected seven per cent, but still the third best year since 1968.

Indeed, the economy is set to outpace all other G7 nations for the second year in a row.

Goldman Sachs economists predict that Britain will grow by 4.8 per cent – a significantly larger figure than the 3.5 per cent predicted for the United States, 4.4 per cent for France and Italy, and four per cent for Germany.

The EY Item Club have gone even further, predicting GDP will surge by 5.6 per cent, based on ‘strong financial reserves’ built up by households during lockdowns and a ‘revival in business investment,’ all offsetting emerging constraints. What are those constraints then? Families face painful tax rises in April, designed to pull in more money for spending on the NHS and social care. National Insurance is rising by 1.25 per cent while a freezing of income tax brackets will mean more people are dragged into higher rates.

Some predict household budgets will take a hit of at least £1,200. However, inflation is the big one. The Bank of England expects this to peak at six per cent in April – the highest since 1992. That would be three times the official two per cent target.

Soaring energy prices – down to Russia’s ‘rationing’ of gas – could push inflation higher still.

Experts see interest rates at between 0.5 per cent and one per cent by the end of 2022.

Not everyone is so pessimistic.

Chris Dillow, of Investors Chronicle, commented: “Economists over-estimate the extent to which recessions and spare capacity reduce inflation and under-appreciate the power of another effect.

“This is that recessions scramble the patterns of supply and demand, thus creating mismatches between the two.

“That leads to localised shortages, and hence inflation to the extent that such shortages do more to raise prices than excess supply does to reduce them.

“These mismatches should gradually diminish and as they do inflation should fall.

“A precedent here is the recovery from the 2009 recession.

“During this, inflation rose at first, peaking at over five per cent in 2011 – but it then fell back to zero by

2015.”

Fingers crossed!