United Kingdom: Risk Assessment
Country Risk Rating
Business Climate Rating
- Hydrocarbon production covering three quarters of energy needs
- Cutting-edge sectors (aerospace, pharmaceuticals, automotive)
- Financial services
- Competitive and attractive tax regime
- Uncertainties about the future relationship with the EU
- High government and household debt (124% of disposable income)
- Low productivity and lack of training not conducive to innovation
- Regional disparities between London and the south-east, and the rest of the country, particularly in terms of transport and energy infrastructure
Slight slowdown subject to a Brexit deal
The magnitude of the slowdown in growth in 2019 will depend on the terms of Brexit. At the beginning of January 2019, these remained uncertain, with Parliament preparing to vote on the agreement presented by the government. If approved, the UK will leave the EU at the end of March 2019. If rejected, Prime Minister Theresa May could try to continue negotiations with the EU, resign, or face a vote of no confidence from the opposition (Labour). The latter two scenarios would lead to new elections. If necessary, the UK’s withdrawal from the EU could be delayed, in order to avoid a no-deal Brexit while elections with an uncertain outcome are being held. Labour, although torn between backing a second referendum or negotiating a permanent customs union with the EU, could then succeed. While a no-deal Brexit scenario in March 2019 – which would severely curtail activity – is unlikely, it cannot be entirely ruled out. Persistent uncertainty will be a key factor in the recovery of business investment, which was already affected in 2018. Investment in equipment and construction alike will remain sluggish due to higher credit costs, as the key interest rate is gradually increased (+0.25 point hike per year since 2017, with the same expected in 2019). In addition, even in the event of a Brexit agreement, uncertainties about the future trade relationship with the EU will further hinder the development of production capacity, including value chains. At the same time, household consumption is expected to slow slightly due to less dynamic job creation and low real wage growth, even though inflationary pressures are set to ease in line with the stabilization of oil prices. Moreover, given their low level of confidence, households are likely to rebuild their savings after significantly reducing them in recent years (4.4% of disposable income in mid-2018 compared with 9.2% in 2015). However, subject to approval of the 2019 budget, household consumption will be supported from April onwards by the 4.9% increase in the minimum wage, which will affect almost 10% of employees, and by the 5.5% increase in the income tax exemption threshold (up to GBP 12,500 per year). Fiscal policy would be accommodative in 2019 (estimated growth effect of 0.3 percentage point of GDP) with a sharp increase in public spending, particularly in the National Health Service (NHS). Moreover, unless there is a no-deal Brexit, exports should remain resilient despite the slowdown of the main partners (eurozone, China, United States). Nevertheless, with imports set to rebound in 2019, the positive contribution of foreign trade to growth will decline. In the current setting of financial constraints and low household confidence, which is not conducive to major purchases, the automotive sector is expected to remain among the most affected, after recording a 7% drop in new vehicle registrations over the first ten months of 2018 and a 6% decline before that in 2017.
A 2019 draft budget to support growth
According to the draft budget to be voted on in the first quarter of 2019, the government will implement a less restrictive fiscal policy in 2019 to support activity. The new measures include notably a spending increase of GBP 10.9 billion (0.5% of GDP), two thirds of which will be allocated to the NHS, with the remainder going to education, social assistance and defense. On the revenue side, while the main measure concerns raising the thresholds for the first and last income tax brackets (estimated cost of GBP 2.8 billion, or 0.1% of GDP), taxes on fuel and alcoholic beverages will ultimately remain frozen (cost of GBP 1 billion). Consequently, the UK’s government deficit will rise again, but will remain well below 3%. The public debt will continue to decline.
While remaining largely in deficit, the current account balance is expected to continue to improve in 2019, despite the widening goods deficit. The latter is not offset by the balance of services, which shows a substantial surplus. As in 2018, the improvement in the current account balance will therefore be driven by the contraction in the income deficit, in connection with the increase in investment income abroad. Despite the uncertainty related to Brexit, the United Kingdom will continue to easily finance its large current account deficit through investment flows.
Complete uncertainty about the Brexit agreement
Since the June 2017 elections, Prime Minister Theresa May has depended on a fragile alliance between her Conservative Party and the Democratic Unionist Party (DUP), a Protestant conservative party from Northern Ireland. After many months of negotiations and dissension within her own government, Mrs May managed to reach an agreement with the EU on the terms of Brexit in November 2018, and finally delayed the Parliamentary vote until mid-January 2019, in anticipation of a likely rejection in December. After this delay, Mrs May faced a confidence vote in her own party leadership, which she won (by 200 to 117). While this incident exposed the Conservative Party's division over Brexit, the Labour party has also struggled to articulate a unified strategy behind its leader, Jeremy Corbyn. In early January 2019, ahead of the vote by Parliament, the outcome and duration of negotiations between the UK and the EU remained highly uncertain.