United Kingdom: Risk Assessment
Country Risk Rating
Business Climate Rating
- Hydrocarbon production covering three-quarters of energy needs
- Cutting-edge sectors (aeronautics, pharmaceuticals, automotives)
- Financial services
- Competitive and attractive fiscal regime
- Uncertainty over the implementation and consequences of the decision to leave the EU
- High levels of public and household debt (140% of disposable income)
- Low productivity and lack of training not conducive to innovation
- Regional disparities with London and the Southeast and the rest of the UK, especially regarding transport and energy infrastructure
Decline in Activity Continues
Growth, still suffering from the uncertainties associated with Brexit, is expected to weaken in 2018. Household consumption, which represents over 60% of GDP, is set to continue to slow. Indeed, while inflation, following the depreciation of the British pound sterling after the referendum, is outstripping nominal wage growth, the pressure on household disposable income will persist, leading to an erosion of consumer confidence. However, the drop in consumption’s contribution to growth will be gradual if households continue to reduce their savings (4.8% of disposable income in 2017 compared with 9.2% in 2015). The slowdown in domestic demand has already impacted the automotive sector, which posted a fall in new registrations in 2017. The contribution of private investment is expected to fall, with businesses choosing to delay their investment decisions due to political uncertainty. The fear of a post-Brexit slowdown and the rising cost of credit, following the hike in the benchmark interest rate, will continue to weigh on the construction sector. Despite a more accommodative fiscal policy, the contribution of public consumption will likely remain weak. Buoyed in 2017 by a devalued pound and by robust demand in EU partner economies, exports should continue to contribute positively to growth in 2018. The effect of sterling’s depreciation on export competitiveness is, however, likely to ease, reducing the contribution of exports to growth. The economic slowdown could be reflected in a rise of about 8% in bankruptcies.
The increase in consumer prices is expected to moderate slightly, benefiting from the weakening effects of the sterling’s devaluation on imported goods and a less pronounced increase in energy prices. After the Bank of England raised its benchmark interest rate – for the first time since 2007 – to 0.5% in November 2017, a second intervention to raise the rate by 25 basis points in 2018 to bring inflation down towards the 2% target cannot be ruled out.
Slower Fiscal Consolidation
While the economy is facing a less favorable context and is still struggling to overcome certain structural weaknesses, such as anemic productivity growth, the pace of fiscal consolidation is expected to ease. In particular, cuts to current expenditures are expected to be smaller than initially foreseen. Rising spending on the National Health Service (NHS) and measures to “repair” the property market imbalances were announced in the budget statement in November 2017. Capital spending is expected to rise only moderately. Although these measures are unlikely to stop the downward path of the deficit in 2018, financing them is expected to push up the debt ratio, which came down due to an accounting change in 2017.
The current account balance will continue to show a large deficit in 2018. After benefiting from a buoyant global trade environment and the pound sterling’s depreciation in 2017, the balance of goods deficit is expected to increase slightly in 2018. This will not be offset by the services surplus. Even if it could recede, the income balance deficit, which has widened since the start of the decade in connection with the decline in investment income, will continue to impact the current account balance. Transfers, which make a low contribution, are not expected to influence the current account overall balance. Even though the UK has recorded the biggest current account deficit of the G7, and political uncertainty presents certain threats, the country is expected to be in a position to finance its current account deficit thanks to investment flows.
Thorny Brexit Negotiations on the Agenda of a Weakened Government
After triggering Article 50 of the EU treaty governing the EU withdrawal process in March 2017, Theresa May, Prime Minister since July 2016, called early general elections so that she could begin Brexit negotiations from a position of strength. However, during the June 2017 elections, even though Theresa May’s Conservative party won, it lost its absolute majority in the House of Commons - a significant setback. Only a fragile alliance with the Democratic Unionist Party (DUP), a conservative Protestant party from Northern Ireland, enabled Mrs. May to remain in position at the head of government. From its weakened negotiating position, on the 5th December 2017, the government nonetheless managed to conclude the first phase of talks with the European Commission, reaching agreement on the EU divorce terms. This compromise, earned after drawn-out negotiations, marks a rare positive moment for the government. The Irish issue will return in the next round of negotiations. The second phase, covering future relations with the EU, will be even more complicated, with the effective exit date of 29th March 2019 looming. An amendment adopted thanks to the rebellion of some Conservative MPs providing for any final deal to be ratified by Westminster exposed Mrs. May’s weakness and her reduced room for maneuver to find an agreement that will satisfy her majority.