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UK faces long 'VW-shaped' recovery

Government figures are expected to show the recession is over, but the Item Club says growth will not resume until 2012

• Heather Stewart
• The Observer, Sunday 18 October 2009
• Article history

A shop ceases trading in Birkenhead, north-west England. Photograph: Paul Ellis/AFP/Getty Images

Britain is facing a painful and prolonged "VW-shaped recovery" as the economy "bumps along the bottom", held back by chastened consumers and government cost-cutting, the Ernst and Young Item Club forecasting group warns today.

Government figures released on Friday are likely to show that recessionhas officially ended after 15 months, but the Item Club predicts it will take until 2012 before growth returns to its long-run average.

"There are all sorts of short-term bounce factors, such as the VAT cut and the stamp duty holiday, but most of those will start to get unwound," said Peter Spencer, the report's author. "The UK is in for a VW-shaped recovery as output bumps along the bottom over the next 18 months." He said the public sector spending squeeze expected after the next election would dampen growth.

Item expects GDP to expand by 1% next year, even weaker than the 1.5% Alistair Darling is hoping for; and in 2011, when the Treasury is expecting a healthy 3.75%, Item predicts growth of just 2%.

Spencer says the Bank of England's policy of quantitative easing has helped to boost the price of assets, such as shares, but is not feeding through to spending or investment. "It now appears that when companies and consumers acquire cash balances they use them to pay down debt rather than to support spending."

He believes this change in behaviour marks a long-term shift from the spendthrift habits of the boom to a savings culture. "In the conversations that we have around the coffee machine or the dinner table, the topics are going to shift from the latest two-year fixed-rate mortgage to the best two-year Isa," he said.

Economists are keenly awaiting Friday's GDP figures, which will show whether the economy registered positive growth between July and September, marking the end of the recession. Peter Dixon, UK economist at Commerzbank, said he expected "a small positive growth rate".

"Such a result would break the trend of five consecutive contractions which have resulted in the deepest recession in almost 30 years and the second worst in the post-1945 era," he said.