UK economy forecast.

Barrell, Ray ; Kirby, Simon ; Riley, Rebecca 等

The production of this forecast is supported by the Institute's Corporate Members: Abbey plc, Bank of England, Barclays Bank plc, Ernst and Young LLP, Marks and Spencer plc, The National Grid Company plc, Nomura Research Institute Europe Ltd, Rio Tinto plc, Unilever plc and Watson Wyatt LLP.

Introduction

Economic growth remained relatively subdued in the second half of last year, at around 1/2 per cent per quarter. However, this is faster than in the first half of 2005 (see figure 1). Over the year as a whole the economy expanded by 1.7 per cent in 2005. We expect economic growth to accelerate in 2006 and 2007 to around 2 1/4 and 2 3/4 per cent per annum respectively.

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One of the factors affecting the forecast is the incorporation of the Government Actuary's Department's new projections for growth in the population of working age. These show a sharp upward revision to population growth in the near term, in comparison to previous projections, that is mainly due to revised assumptions for net immigration. The potential effects of these changes on the economy are discussed on pages 60-62 of this Review. Taking the new population projections on board we have revised up our view of the supply capacity of the economy in the near term. This is reflected in an upward revision to our estimate of the amount of spare capacity that currently exists in the economy, and in a downward revision to our projections for inflation.

Indeed, inflation has turned out weaker than we anticipated in October, as has growth in average earnings. If the population of working age has expanded more rapidly than previously thought, this is the type of picture we might expect to see. Even so, taking into account stronger growth in labour supply, inflationary pressure appears weak. Assuming that interest rates follow the yield curve, we expect inflation to remain very close to its central target over the next two years (see figure 2). We emphasise that we still see upside risks to inflation, stemming primarily from the shock to oil prices observed over the past three years.

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One of the factors helping to contain inflation in the near term is rising unemployment. We expect unemployment to rise further over the next year to 5.3 per cent on the ILO measure in 2007. It is difficult to expect anything else given exceptionally weak productivity growth last year and robust growth in the labour force.

On the demand side the pick-up in growth this year and next is supported by stronger growth in investment and export demand. The sharp decline in long-term real interest rates in the past year, coupled with poor productivity growth and strong profits, should prove a stimulus to investment demand. The outlook for export growth remains robust. As discussed on pages 63-7 of this Review, there are a number of structural factors supporting export growth in the near term. Consumer expenditure is likely to remain relatively weak, in comparison to the early part of this decade, but we expect a small pick-up from the growth rates observed in 2005.

Figure 3 shows our estimate of the output gap. This suggests that the economy is currently operating below capacity. The amount of spare capacity is relatively small at around 1/3 per cent of GDP. Using our estimate of the output gap to date the cycle would suggest that there are three economic cycles between the beginning of 1994 and the end of 2007. This is rather different from the dating of the cycle presented in the Chancellor's Pre-Budget Report published in December last year. Estimates presented there suggest that the period from 1997 to 2009 represents one long economic cycle. Needless to say estimates of the cycle are uncertain in real time and hence do not provide a particularly useful guide to fiscal policy in the present. Unfortunately, the Treasury's redefinitions of the start and end dates of the economic cycle this year cannot help but look opportunistic, since both improve the public finances when measured against the golden rule, as too does their method of calculation in adding up proportions of GDP instead of borrowing and lending. The latest Pre-Budget Report contained measures that improve the fiscal position in the medium term, as we discuss on pages 44-7, and this also improves the chance that the fiscal rules will be met during the period the Treasury describes as a cycle.

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Table 1 illustrates the uncertainty around our projections for CPI inflation and GDP growth this year and next. The root mean square errors of the forecasts are calculated from past forecast errors over the period 1993-2004 for inflation and 1989-2004 for GDP growth. We exclude forecast errors made in the 1980s. The shift to the low inflation regime in the 1990s implies that the magnitude of inflation forecast errors before then is likely to exaggerate the uncertainty surrounding the central forecast. Indeed, examining the accuracy of density forecasts of inflation, Mitchell (2005) finds this to be the case. The shift to a more stable macroeconomic environment in the 1990s provides a similar justification for excluding errors for real GDP growth from the 1980s, but we include the recession of the early 1990s so as not to underestimate the uncertainty of our forecast. The probability distributions of our growth and inflation forecasts, shown in table 1, give the probability that actual outcomes will fall within certain bands and are calculated under the assumption that the forecast errors are normally distributed and unbiased. On these assumptions there is a 1 in 4 chance that inflation will fall outside the target range of 1 to 3 per cent in the next two years. Our forecast shows GDP growth rising to 2.3 per cent per annum this year and 2.7 per cent per annum next year, but, based on past experience, there is a 2 in 5 chance that growth will remain below 2 per cent this year. There is a 1 in 3 chance that growth will fall below 2 per cent next year.

Interest rates, exchange rates and prices

The Bank of England has left the repo rate unchanged at 4 1/2 per cent for five months. In constructing our forecast we have followed the yield curve, which at the time of writing suggests expectations of broadly flat interest rates through this year. On average for 2006 short-term interest rate expectations are approximately 1/2 percentage point lower than this time last year. However, over the same period long-run interest rates for 2006 have dropped by over 1 percentage point. Indeed there does seem to be a weakness in yields on long-term securities worldwide, especially in Europe. As noted on pages 9-11 in the October 2005 Review, nominal long-run interest rates had fallen in all the major economies. This may be in response to a decline in inflation expectations or the long-run real interest rate. However, there is also the possibility that the implications of an ageing society have been re-assessed by financial markets.

CPI inflation was 2.1 per cent in the fourth quarter of 2005. This was a deceleration from the recent peak of 2.4 per cent for the third quarter of last year. The downward movement in inflation is primarily due to downward contributions from air travel and fuel prices. Our forecast for CPI inflation shows it slightly above the Bank of England's target for 2006 on average, before reverting to target for the foreseeable future. However, an upside risk to inflation from higher oil prices remains.

The effect of sharp rises in oil prices does not appear to have fed through very strongly to domestic consumer prices in the UK economy. This suggests that the inflation target is seen as credible, and this helps keep down actual inflation (see pp. 38-9 of the October 2005 Review for a discussion of the role of expectations in anchoring inflation). Manufacturing industry appears to have continued to absorb strong input price inflation without passing it on in output prices as figure 4 shows. Unit labour cost growth for the economy as a whole was relatively strong last year, less so in the manufacturing sector, and yet inflation has not accelerated much above target. As we discuss below, we expect average earnings growth to remain flat this year and next, while productivity growth recovers somewhat via a pick-up in GDP growth and a moderation in employment growth. Thus, we expect growth in unit labour costs to slow from 3.5 per cent per annum in 2005 to 2 1/4 per cent in 2007.

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Table 3 also reports our forecast of UK import and export prices. The recent data have been distorted by the Office for National Statistics (ONS) accounting for the estimated insurance payouts by Lloyd's of London, which unlike other insurers does not have equalisation reserves to be drawn on. The methodology used by the ONS means that the estimated 1.9bn [pounds sterling] insurance claims to be paid by Lloyd's of London is taken from the value of UK exports through the export deflator. Consequently, we should expect to see a rebound in export prices in the fourth quarter of 2005 due to this temporary effect. This lowers the growth in average export prices in 2005, and artificially inflates the growth rate for this year.

In table 2 we report two measures of the UK effective exchange rate. The first is similar to the Bank of England's IMF-based effective exchange rate, which has a narrow sample of countries. The second effective exchange rate is a more up-to-date series that has more extensive country coverage. The methodology behind this second effective exchange rate is discussed in Barrell et al. (2005) and we have since further developed this index to use chain weighting. It is clear from the fourth quarter of 2005 that movements in the two series differed. Both measures depreciated in the first quarter of this year; though the old IMF-based measure depreciated by more. We assume that most bilateral exchange rates follow a random walk for the first three quarters of our forecast, and thereafter follow the path implied by interest rate parity. Accordingly, with interest rates in the UK broadly flat this year and next, while world interest rates rise, both effective exchange rate measures depreciate. This will put some upward pressure on inflation.

At the time of constructing our forecast equity prices have continued their recent strong rise. Our forecast for strong profitability this year and next suggests that equity markets should perform relatively well. Due to strong growth at the start of this year we expect the year average growth rate in the FT All-share index for 2006 to equal the 15 per cent seen in 2005. Looking ahead, our forecast has equity prices growing in line with nominal GDP in the G7 economies, adjusted for exchange rate movements. We expect the FT All-share index to reach its peak of the third quarter of 2000 in 2007.

Demand

In recent years domestic demand has been the driving force behind growth in the UK economy, led by strong growth in household consumption expenditure. Last year consumption growth weakened considerably and with it domestic demand. In our forecast, household consumption growth remains relatively weak, this year and next, in comparison to the recent past. This continues to be a dampening factor on domestic demand growth. Household consumption expenditure has been contributing, on average, 66 per cent to the rise in real domestic demand between 2000 and 2005. In our forecast, this moderates to around 55 per cent this year and next. Thus, domestic demand rises ahead of consumption in our forecast. Overall, our forecast is for domestic demand to rely more on gross fixed investment than in the recent past. Nevertheless, we note that the contribution of private investment is still poor, considering the weakness of long-term interest rates seen both domestically and in the world in general.

Our forecast of general government consumption expenditure is based on the projections as set out in table A10 of the 2005 Pre-Budget Report. The profile of quarterly growth for government consumption expenditure for the first three quarters of 2005 has been weak. We expect a pick-up in government consumption, but we do not expect HM Treasury's projection of 1.5 per cent growth in government consumption volumes for 2005 to be realised, falling around 1/2 percentage point short. In constructing our forecast of government consumption expenditure, we assume that some of this shortfall is recovered this year and next, leading to a slightly higher growth profile, in real terms, in our forecast than in the projection published in the Pre-Budget Report.

Retail sales data for the three months to December 2005 show the strongest three-monthly growth since July 2004. Retail sales data account for approximately 33 per cent of household consumption volumes. Our projection for growth of household consumption expenditure is broadly flat at 1/2 per cent per quarter or 2 per cent per annum, this year and next. This is a slight pick-up on last year and is marginally stronger than in our previous forecast. This pick-up is in response to our forecast for an improvement in real disposable income and our assumption that house price growth is now relatively stable.

In our forecast, net trade ceases to depress GDP growth in 2007 due to acceleration in export demand growth this year and next. The structure of the UK export sector is in good shape relative to its main European rivals. As discussed on pages 63-7 of this Review, there is evidence of a significant and positive effect of the technological intensity of exports on UK export volumes. The relative technological intensity of UK exports has been on a par with the US in recent years. As Betschart et al. (2005) note, between 1997 and 2002 the growth rate of high-tech goods trade was twice that of total world trade. The assumption of continued strong demand for high-tech products will support UK exports. In our forecast we have assumed that the UK maintains its technological intensity of exports. This helps to reduce the rate of loss of trade share of the UK export sector through our forecast period. This, together with the improvement in domestic demand in the UK's most important market, the Euro Area, provides robust demand for UK exports this year and next.

The current account deficit increased by 2.9 percentage points of GDP in the third quarter of 2005 to 3.4 per cent. Part of the increase in the current budget deficit in this quarter is due to the treatment of the estimated payment of insurance claims by Lloyd's of London in the balance of payments statistics. The inclusion of these estimated insurance payments is the main reason behind the fall in the surplus on trade in services between the second and third quarter of last year. These estimated payments affect the UK exports deflator, as discussed above, rather than the volume of UK exports. Thus, our forecast is for the current account deficit to improve in the fourth quarter of 2005 as the export deflator is adjusted back to where it otherwise would have been, in the absence of the estimated payments from Lloyd's of London, all else being equal. Despite the reasonably robust growth of export volumes this year, the current account deficit is forecast to increase to around 21A per cent of GDP. This belies the slight improvement in the current account throughout this year, and is rather a consequence of the decline in the current account at the end of last year. We expect the current account deficit to remain between 1 1/2 per cent and 21/i per cent of GDP for the foreseeable future. We have included the estimated cost of agreed changes in the projected EU rebate in our forecast of the current account. On our central projection this has the effect of increasing the current account deficit by 0.1 percentage points of GDP by 2011.

Income and saving

Data from the average earnings index excluding bonuses suggest that growth in average earnings has been relatively stable for the majority of 2005. This is primarily due to the stability of average earnings growth in the private sector. In the short term there is evidence from settlements data that earnings growth will remain constrained. Data on pay settlements from the IRS pay databank for the three months to December show the median increase by number of pay reviews remaining flat at 3 per cent, although the average increase shows a decline. Thus the data suggest pay settlements did not respond to the rise in inflation towards the end of last year. This could reflect a number of factors. The retail price index has been subdued in comparison to the CPI. Unemployment has shown small rises and it is possible that strong inward migration could have helped to contain pay pressures, although pay settlements at the start of the year will be more telling. Our measure of the average earnings uses National Accounts data, and is defined as total employee compensation per employee. This differs from the average earnings index definition because our National Accounts measure includes such things as employers' social security contributions. We expect growth in our definition of average earnings will be stable at around 4 1/2 per cent per annum this year and next. This is weaker than in our October forecast, reflecting recent data and stronger growth in labour supply.

Total employee compensation growth per annum, however, has been almost 1 percentage point stronger than average earnings growth in 2004 and 2005. This is due to strong growth in employee numbers in these years. Our forecast shows this gap narrowing as growth in employment moderates due to employers' attempts to improve on the poor productivity growth we have seen over the past year.

Growth in household income other than employee compensation is expected to be relatively robust, supported by strong transfer income and profit income. Data for the third quarter of 2005 show that taxes on income are still a considerable drag on household disposable income growth. However, it is inflation, as measured by the consumption expenditure deflator, that had the more depressing effect on real disposable income. After including all the available policy announcements on tax from Budget and Pre-Budget Reports, together with the assumption of fiscal drag on the household effective tax rate, we expect the negative effect of tax on household income growth to moderate and our central projection for inflation is benign this year and next, in comparison to our previous forecast. Our forecast for real disposable income growth is 2 1/2 per cent this year, rising to less than 3 per cent in 2007. This is stronger than in our October 2005 Review, and contributes to a more robust outlook for household consumption expenditure.

The household saving rate picked up in the second and third quarters of 2005, to average 5 1/2 per cent. We expect the household savings rate to continue to rise this year and next, reaching almost 6 1/2 per cent in 2007. Partly this is a consequence of subdued growth in housing wealth and a lagged effect from the weakness of net financial assets. One should bear in mind that household saving is the difference between two very large numbers. Consequently, the uncertainty about the future profile of the saving ratio is rather large. The Pensions Commission (2005) has recommended introducing a National Savings Scheme by 2010, which, although not compulsory, requires the employee to opt out if they do not want to participate. This could be seen as an upside risk to the household savings rate if it were implemented, as we have not included any specific policy adjustment on saving in our forecast. The possible effects on the economy of policies to raise household sector saving are discussed in Barrell et al. (2006).

Table 7 shows the balance between gross saving and gross investment in the economy as a whole. These figures for saving and investment are gross of depreciation. An excess of investment over saving is financed by means of a financial deficit, and an excess of investment over saving for the nation as a whole is represented by the current account deficit of the balance of payments. The ratio of household savings to GDP is lower than the ratio of household savings to disposable income because nominal GDP is larger than household disposable income. We expect the saving rate of the economy as a whole to remain relatively stable at around 15 per cent of GDP in 2005 and 2006, rising to almost 15 1/2 per cent in 2007. The company sector is expected to retain its position as net lender to the rest of the economy. The rise in national saving forecast for 2007 is due to increased saving in the household sector, together with a rise in general government saving. Despite our expectation of a rise in national saving, we are also forecasting an increase in gross investment as a percentage of GDP. This is due to the government moving towards its target for net investment as a proportion of GDP. Consequently, we expect the UK to require finance from abroad of around 2 1/4 per cent of GDP.

Supply conditions

The rate of growth in the UK capital stock has decelerated from a peak of 3 per cent per annum in 1998 to 2.5 per cent per annum in 2004. Although this is still stronger than during the first half of the 1990s, it does reflect considerable weakness in investment. In the past three years, business investment has been weaker than we might have anticipated on the basis of low real long-term interest rates and rising capacity utilisation in industry. The latter is likely to reflect the weakness of expansion in the capital stock as well as stronger output growth in 2003 and 2004.

The conditions for business investment over the next two years remain favourable. Low real long-term interest rates are helping to hold down the user cost of capital, despite rising tax rates on company sector profits. Profits are also relatively strong, although not in comparison to the peaks of the past two decades (see figure 5). We expect stronger growth in business investment this year and next than observed in recent years. Housing investment is expected to remain relatively subdued, given the softening in the housing market. We base our forecast of government investment on the projections shown in table A6 of the Pre-Budget Report, adjusted slightly because the definition of general government investment used by HM Treasury differs from that used in our forecast. These show some deceleration in government investment volumes this year and next, following strong growth in 2005, but growth remains strong.

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Taken together we anticipate stronger growth in aggregate gross fixed capital formation this year and next, producing stronger growth in the aggregate capital stock. This should help to boost productivity growth in the near term, following unusually weak productivity growth last year. Measured per job, productivity rose by 0.6 per cent in the year to the third quarter. It is difficult to attribute this to factors such as labour hoarding. Given the weakness of output growth in 2005 and the expectation that the economy would recover somewhat this year, judging by the forecast consensus collected by HM Treasury over the summer and autumn, some labour hoarding is likely. But, productivity per hour worked has risen less quickly than productivity per job or per worker, making this an unlikely explanation.

The poor performance of productivity growth is only partly the result of employment shifts between more and less productive industries. Instead the slump in productivity growth last year is mostly due to productivity weakness within all industries, at least when industries are viewed at a reasonably high level of aggregation. Decomposing productivity growth per job in this manner, it appears that within industries growth is only marginally stronger than for the economy as a whole. Growth in economy wide productivity in the year to the third quarter of 2005 is reduced by approximately 0.2 percentage points due to shifts in employment to low productivity industries. (1)

Our projections show employment growth slowing this year and next. It is our expectation that employers will wish to boost productivity, following poor performance in 2005. In combination with robust growth in labour supply, this leads to a pick-up in the unemployment rate of approximately 1/2 percentage points between 2005 and 2007. Indeed, labour market statistics, available after finalising the forecast, show unemployment on the ILO measure rising to 5 per cent in the three months to November last year, from 4.8 per cent at the beginning of 2005.

Public sector

Our forecast for the public finances shows an improvement in the balance on the public sector current budget in comparison to our recent fiscal forecasts. In part this is a result of policies announced in the latest Pre-Budget Report. In comparison to our October projections, our forecast for the short term shows an improvement in the balance on the public sector current budget of 0.1 and 0.3 percentage points of GDP in 2006-7 and 2007-8. The revision to our forecast for 2007-8 is partly explained by stronger projections for GDP growth, but the majority of the improvement in the fiscal position comes about via policy changes announced since last year's Budget Report. The Treasury expects these to raise tax revenues by 2 1/2bn [pounds sterling] and 3bn [pounds sterling] in 2006-7 and 2007-8, mainly reflecting an increase in taxes on activity in the North Sea. The effect on the current budget of policies to raise revenues is offset somewhat by increased transfer payments, most notably by the continuation of winter fuel payments at current levels. Taken together, the Treasury expects discretionary changes to tax and spending since the spring of last year to improve the public finances by 1.1bn [pounds sterling] in 2006-7 and 2.1bn [pounds sterling] in 2007-8.

By 2009-10 our current projections show the public sector current budget in balance. This is in comparison to our projection of an underlying deficit of approximately 3/4 per cent of GDP in 2008-9 and 2009-10 in October, on previous policy plans. The projected level of nominal spending was broadly unchanged in 2008-9 between the Budget and Pre-Budget Reports in 2005. We have assumed in this forecast that the Government reduces the share of public sector spending in the economy from 2008-9 as projected in last year's Budget and Pre-Budget Reports. We project lower spending by 2009-10 as we forecast that the level of GDP will then be lower than the PBR projection suggests. If however, as we have assumed in the past, real spending does not adjust in line with changes in growth, the deficit in the medium term would be around 1/4 per cent of GDP. The Treasury forecast presented in Pre-Budget Report 2005, shows public sector total current expenditure falling by 0.5 per cent of GDP in the two years following the 2004 Spending Review period. Since it is clear that over the medium term the Government sets targets for the public sector current budget balance relative to GDP, it is not unreasonable to assume that the next Spending Review, expected in 2007, will indeed involve a reduction in the share of public sector spending in the economy.

The improvement in the medium term fiscal position comes about in part via the permanent increase in tax rates announced in the 2005 Pre-Budget Report. As discussed above, these also improve the short-term outlook, and should raise medium-term revenues by 0.2 percentage points of GDP. In comparison to our previous estimates, the medium-term budgetary position is also supported by the additional population growth that stems from the assumption of stronger net inward migration. As discussed on pages 60-62 of this Review, the upward revisions to growth of the population of working age result in a small improvement in the budgetary position of 0.2 percentage points of GDP.

Our short-term forecast for the period covered by the 2004 Spending Review is constructed under the assumption that government spending on goods and services is as set out in the latest Treasury forecast in nominal terms. Thereafter we assume that spending on goods and services is adjusted to reduce public sector total current expenditures relative to GDP in line with the Treasury forecast. We note that our forecast shows a slowdown in spending on goods and services and other current expenditures from around 5 1/2 per cent per annum between 2005-6 and 2007-8 to 4 1/2 per cent per annum thereafter. It is important to emphasise that on our projections the public sector current budget would not be in balance in the medium term if the Government does not reduce the size of government spending in the economy as it currently expects.

In constructing our forecast we also assume that the Government meets its target for net investment, measured in proportion of money GDP, with a small delay. In the medium term, government net investment is around 2.3 per cent of GDP as set out in last year's Pre-Budget Report. Tax receipts are endogenously determined in our model of the economy. Tax receipts grow in line with the tax base, taking into account policy changes announced in previous Budget and Pre-Budget Reports. We also make an allowance for the recently proposed amendment to the UK's rebate from the EU, using figures calculated by HM Treasury. (2) This reduces government receipts by approximately 0.1 per cent of GDP in 2009-10 and 2010-11. There is also a small negative effect on receipts in 2007-8 of 1/2bn [pounds sterling].

In comparison to the Treasury projections, our forecast for the public sector current budget balance is less optimistic in the medium term. The difference from the Treasury forecast is not large, either in terms of the uncertainty associated with fiscal forecasts (see figure 6) or in terms of the difference of our forecast from the Treasury forecast in recent years. The difference to the Treasury in the medium term arises in part because the Treasury expects the economy to rebound from recent weakness quite strongly in comparison to our forecast, resulting in more buoyant tax revenues and weaker spending on social benefits than we anticipate. It is our view that there is a structural deficit of around 1/2 per cent of GDP in 2006-7, and this is gradually removed by the end of this decade. In contrast, the Treasury believe there is a structural surplus of 0.7 per cent of GDP in 2006-7 which remains in the medium term.

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A separate question is whether the fiscal position looks sustainable without further tax increases or spending cuts than currently planned. As regards this question we note that we anticipate public sector net debt to rise to 38.5 per cent of GDP in 2007-8 and to 39 per cent of GDP by the end of this decade. This is very close to the existing debt ceiling of 40 per cent of GDP implied by the sustainable investment rule. Our projections for public sector net debt are a little more pessimistic than Treasury projections. But, as we discuss on pages 58-9 of this Review, even the Treasury projections imply a one in five chance that action will be needed to reduce the debt stock by the end of 2007-8 if the 40 per cent debt ceiling is indeed binding.

Accumulation

Household sector wealth is bolstered by strong growth in financial assets. Our forecast shows financial assets rising in excess of 10 per cent per annum in 2005 and 2006, driven by strong growth in equity prices throughout 2005 and into the beginning of this year. The acceleration in growth of household sector net financial assets in 2005 and 2006 is even more pronounced, as we anticipate that growth in financial liabilities will weaken in line with a softening in the housing market in comparison to the first half of this decade. Following a remarkable acceleration beginning in 1997, growth in household sector debt has weakened since the middle of 2004, although there are signs that it has stabilised in the last half year. Growth in total household sector net worth is held back by a sharp deceleration in growth in housing wealth, which is largely dictated by the development of house prices.

In recent years it has become a consensus view that UK house prices are if anything above what might be described as sustainable levels. Indeed, on the ODPM measure, UK house prices rose by 130 per cent between 1997 and 2004 or by 12 1/2 per cent per annum on average over this period. Since then, house price inflation has moderated, which has allayed fears of a sharper correction to house prices, although very recently there are signs that house price inflation is picking up again. Figure 7 shows quarterly inflation in the ODPM index of house prices and the two big mortgage lender indices. Following a strong deceleration in house price inflation since the middle of 2004, house price inflation picked up in the second half of last year on the Halifax index, and towards the end of the year on the Nationwide index. This is consistent with the pick-up in mortgage lending at the end of last year. The RICS housing market survey also notes a sharp rise in sales in the fourth quarter of 2005.

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Estimates of the extent to which house prices are different from sustainable levels are wide ranging. In constructing a forecast for the UK economy, it is necessary to form an opinion about the future path for house prices, since this is linked to the future path for the economy more generally. House prices determine the value of housing assets, which influences consumer expenditure and housing investment. Given recent developments in the housing market, we have marginally revised up our projections for house price inflation in the near term. But, as we discuss in Box A, it remains our view that house prices are above sustainable levels, although the extent of overvaluation is unclear. Thus, we continue to assume that house prices will rise less quickly than nominal incomes.

Box A. The current position of UK house prices

We update the simple econometric model of house prices reported in Barrell et al. (2004). This is a standard inverted housing demand function estimated in error-correction form. As in Barrell et al. (2004), it would appear that there was no sign of house price overvaluation in the last decade before the middle of 2002. We find that, based on real disposable incomes and short-term interest rates alone, real house prices appear to be close to 30 per cent above their estimated long-run equilibrium value in the second quarter of last year (see figure A), equivalent to the estimated overvaluation for 2004 on average. We note that this is similar to the amount of overvaluation in 2004 estimated by the OECD using an asset-pricing approach (OECD, 2005).

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There are of course factors other than incomes and interest rates that determine house prices. The demand for housing will depend on the number of households in the population, and demand will interact with supply to determine equilibrium house prices. Both the number of households and the housing stock change gradually over time. Their effect on house prices is therefore difficult to determine accurately using simple time-series analysis. In a survey of the literature, Meen (1998) suggests that the long-run elasticity of house prices with respect to the number of households lies between 2 and 3 per cent. The range is the same with the opposite sign for the long-run elasticity of house prices with respect to the housing stock. During the 1980s the number of households in Great Britain rose ahead of the housing stock by 0.10 percentage points per annum. During the 1990s this number rose to O. 17 percentage points per annum. Given the range of elasticities in the literature, the change in the ratio of the number of households to the housing stock in Great Britain over the 1980s and the 1990s should have raised equilibrium house prices by between 5/2 and 8 per cent. In terms of the house price disequilibrium illustrated in figure A, these figures would imply that house prices were still undervalued at the beginning of this decade, if we regard the early 1980s as a time when house prices were at 'normal' levels. Strong population growth without rapid expansion of the housing stock is likely to have pushed up equilibrium house prices further in the past five years. Taking into acount these changes in supply and demand in the past 25 years, the existing house price disequilibrium is thus likely to be closer to 20 per cent than 30 per cent.

A number of other factors are sometimes mentioned as underpinning high house prices. These include financial deregulation and product innovation, which have reduced the number of borrowing constrained households (OECD, 2005). Also mentioned is the sharp reduction in the real long-term interest rate in the past decade, which should raise the asset value of housing as discussed on page 4 of this Review. These factors may reduce further the estimated house price overvaluation at current long-run interest rates illustrated in figure A, since these are not taken into account in estimation.

REFERENCES

Barrell, R., Kirby, S. and Riley, R. (2004), 'The current position of UK house prices', National Institute Economic Review, No. 189, pp. 57-60.

Meen, G. (1998), 'Modelling regional house prices: a review of the literature', Housing Research Summary, No. 84, ODPM.

OECD (2005), 'Recent house price developments: the role of fundamentals', OECD Economic Outlook, 78, Preliminary Edition, November.

Long-term projections

Table 14 shows our projections for the longer term. These do not incorporate future shocks that hit the economy, as they are inherently unpredictable. Our longer-term projections do take into account the impact on the economy from the disturbances we already know about and other important longer-term influences such as the size and composition of the population, and forthcoming changes to the policy framework that can be anticipated with some accuracy.

In the medium term, GDP growth averages 2.4 per cent per annum, a result of productivity growth of 2.2 per cent per annum and growth in the total number of hours worked of 0.2 per cent per annum. (3) Comparing our medium-term projections to growth in the current and previous cycles, dated using our estimate of the output gap in figure 3, the split between productivity and labour growth in the medium term mostly resembles that in the cycle of 1999Q3-2003Q4 (see figure 8), with relatively strong productivity growth and weak labour growth. The current cycle is characterised by weak productivity growth due to exceptionally poor performance on this count in 2005.

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Growth in the labour input depends on growth in the population, participation in the labour market, unemployment rates and average hours worked. Figure 9 decomposes labour growth over past and present cycles and in the medium term. Comparing it to the cycles that began in the 1990s, it is clear that in the medium term weak growth in total hours worked is mostly a result of our expectation that the unemployment rate ceases to decline rapidly. In the past decade employment rose more quickly than the labour force. In our medium-term projections employment rises a little less quickly than the labour force, allowing for small increases in unemployment. In comparison to the current cycle, which runs from the end of 2003 to the end of next year in our forecast, medium-term labour growth is weak because average hours are expected to decline rather than rise. Thus, although employment growth is similar over these periods, growth in total hours worked differs. We note that employment and average hours worked are measured in terms of jobs rather than people. In the medium term, average hours per job are assumed to decline at the average rate observed over the past decade.

[FIGURE 9 OMITTED]

Our projections are based on the assumption that the population of working age grows in line with projections from the Government Actuary's Department. From an accounting perspective, recent revisions to population projections resulting from strong inward migration should raise growth in the labour input by approximately 0.2 per cent per annum over the current cycle and by less than 0.1 per cent per annum over the period 2010-14. The effects of these changes on GDP growth are discussed on pages 6062 of this Review.

Viewing the outlook for the medium term within the accounting framework in figures 8 and 9, the main risks to growth on the upside come from increased participation as compared to our assumption that labour market participation remains broadly constant. As illustrated in figure 9, the population of working age and the labour force grow at the same rate in the medium term. It is quite possible that participation will increase amongst people above normal working age in response to rising longevity and the need to increase saving for retirement. The main risks to growth on the downside come from our assumption of relatively strong productivity growth. While our assumptions may be justified, given rising participation in higher education and efforts to increase the skills of the workforce, it is nevertheless easier to see downside risks to productivity growth judging by performance in the past.

Our fiscal projections show public sector net debt rising close to the upper limit imposed by the Government's sustainable investment rule. To maintain debt below 40 per cent of GDP in the medium term, public sector net borrowing has to fall. In our forecast, public sector net borrowing is reduced to 2 per cent of GDP on average over the period 2010-14. We assume that the Government raises taxes in order for this to happen from 2011-12.

Also affecting the medium term outlook is the sharp increase in oil prices of approximately $30 in the past three years. As discussed in some detail in our October Review, a rise in oil prices of this magnitude may be expected to reduce medium term growth by 0.1-0.2 percentage points. Supporting growth in the medium term is the relatively benign outlook for exports, as we discuss on pages 63-7 of this Review.

ACKNOWLEDGEMENTS

The forecast was compiled using the latest version of the National Institute Global Econometric Model. Thanks to Martin Weale and Paul Wallace for helpful suggestions and to Robert Metz for updating the forecast database.

The forecast was completed on 17 January, 2006.

NOTES

(1) In this calculation we divide the economy into eight main industry groups.

(2) Written Parliamentary Question (Mr John McFall--Mr Gordon Brown) HC Hansard 20th December 2005 Vol 440 c2796w, http://www.publications.parliament.uk/pa/cm200506/ cmhansrd/cm051220/text/ 51220w39.htm#51220w39.html_wqn5

(3) In cable 14 productivity growth and growth in the labour input do not necessarily add up to GDP growth due to rounding and because productivity is measured using GDP at basic prices rather than at market prices.

REFERENCES

Barrell, R., Choy, A., Holland, D. and Riley, R. (2005), 'The sterling effective exchange rate and other competitiveness measures of the UK economy', National Institute Economic Review, 191, pp. 54-63.

Barrell, R., Kirby, S. and Riley, R. (2006), 'Pensions, saving and the UK economy', report prepared for the Pensions Commission, January.

Betschart, S., Rohr, R. K., Mosimann, C. and Siepmann, C. (2005), 'The impact of the increasing international division of labour on Europe's foreign trade', KOF Working Paper no. 104.

Mitchell, J. (2005), 'The National Institute density forecasts of inflation', National Institute Economic Review, 193, pp. 60-69.

Pensions Commission (2005), A New Pensions Settlement for the Twenty-First Century: The Second Report of the Pensions Commission.

Table 1. Growth and inflation forecasts

CPI inflation 2006Q4 2007Q4

Central projection 2.2 1.9

Root mean squared error 0.84 0.90

Probability of 12 month CPI inflation falling in the
following ranges

less than 1 per cent 8 16
1 to 1.5 per cent 13 17
1.5 to 2 per cent 20 22
2 to 2.5 per cent 23 20
2.5 to 3 per cent 19 14
more than 3 per cent 17 11

 100 100

GDP growth 2006 2007

Central projection 2.3 2.7

Root mean squared error 0.89 1.29

Probability of annual growth rate falling in the
following ranges

less than 0 per cent 0 2
0 to 1 per cent 7 7
1 to 2 per cent 30 20
2 to 3 per cent 41 30
3 to 4 per cent 19 25
more than 4 per cent 3 16

 100 100

Table 2. Exchange rates and interest rates

 UK exchange rates FT
 All-
 Effective Effective Dollar Euro share
 (Old BoE index
 series)
 1990 = 100 2000 = 100

2000 107.56 100.00 1.52 1.64 3045.8
2001 105.78 98.53 1.44 1.61 2681.2
2002 105.99 100.98 1.50 1.59 2224.5
2003 100.21 98.28 1.63 1.45 1978.1
2004 104.10 103.49 1.83 1.47 2250.9
2005 103.33 101.94 1.82 1.46 2587.6
2006 102.77 100.62 1.76 1.46 2972.3
2007 102.13 100.22 1.77 1.45 3136.0

2005 Q1 102.87 102.37 1.89 1.44 2473.7
2005 Q2 104.28 103.22 1.86 1.47 2479.1
2005 Q3 102.97 101.23 1.78 1.46 2661.0
2005 Q4 103.19 100.95 1.75 1.47 2736.5

2006 Q1 102.77 100.62 1.76 1.46 2880.6
2006 Q2 102.77 100.62 1.76 1.46 2958.7
2006 Q3 102.77 100.62 1.76 1.46 3005.3
2006 Q4 102.77 100.62 1.76 1.46 3044.4

2007 Q1 102.46 100.42 1.76 1.46 3081.9
2007 Q2 102.21 100.26 1.77 1.45 3118.5
2007 Q3 102.01 100.15 1.77 1.45 3153.9
2007 Q4 101.83 100.06 1.77 1.45 3189.8

Percentage changes

2000/1999 3.7 2.5 -6.3 8.2 4.4
2001/2000 -1.6 -1.5 -5.0 -2.1 -12.0
2002/2001 0.2 2.5 4.3 -1.0 -17.0
2003/2002 -5.5 -2.7 8.8 -9.2 -11.1
2004/2003 3.9 5.3 12.1 1.9 13.8
2005/2004 -0.7 -1.5 -0.7 -0.9 15.0
2006/2005 -0.5 -1.3 -3.1 0.1 14.9
2007/2006 -0.6 -0.4 0.2 -0.7 5.5

2005Q4/04Q4 0.8 -1.3 -6.3 2.0 16.6
2006Q4/05Q4 -0.4 -0.3 0.9 -0.5 11.3
2007Q4106Q4 -0.9 -0.6 0.4 4.8

 Interest rates

 3-month Mortgage 10-year World (a)
 rates interest gilts

2000 6.1 6.8 5.3 5.5
2001 5.0 5.9 4.9 4.0
2002 4.0 5.0 4.9 2.7
2003 3.7 4.7 4.5 2.0
2004 4.6 5.0 4.9 2.2
2005 4.7 5.2 4.4 3.0
2006 4.5 5.1 4.1 3.6
2007 4.3 4.9 4.1 3.9

2005 Q1 4.9 5.2 4.7 2.7
2005 Q2 4.8 5.3 4.4 2.9
2005 Q3 4.6 5.2 4.3 3.0
2005 Q4 4.6 5.1 4.3 3.3

2006 Q1 4.6 5.1 4.1 3.3
2006 Q2 4.5 5.1 4.1 3.5
2006 Q3 4.5 5.1 4.1 3.7
2006 Q4 4.5 5.1 4.1 3.8

2007 Q1 4.4 5.0 4.1 3.8
2007 Q2 4.3 4.9 4.2 3.9
2007 Q3 4.3 4.9 4.2 3.9
2007 Q4 4.3 4.9 4.2 4.0

Percentage changes

2000/1999
2001/2000
2002/2001
2003/2002
2004/2003
2005/2004
2006/2005
2007/2006

2005Q4/04Q4
2006Q4/05Q4
2007Q4106Q4

Note: (a) Weighted average of 3-month interbank rates in other
OECD economies.

Table 3. Price indices 2002=100

 Unit Imports Exports Whole-
 labour deflator deflator sale price
 costs index (a)

2000 94.2 102.4 100.3 100.7
2001 97.6 102.3 99.5 100.1
2002 100.0 100.0 100.0 100.0
2003 102.4 100.4 101.5 101.3
2004 104.2 99.2 100.0 103.2
2005 107.9 103.2 102.6 105.4
2006 110.6 107.2 106.8 107.4
2007 113.0 108.2 107.8 109.2

Percentage changes

2000/1999 3.4 3.1 2.3 -0.2
2001/2000 3.6 0.0 -0.7 -0.6
2002/2001 2.4 -2.3 0.5 -0.1
2003/2002 2.4 0.4 1.5 1.3
2004/2003 1.8 -1.2 -1.4 1.9
2005/2004 3.5 4.1 2.5 2.1
2006/2005 2.5 3.9 4.1 1.9
2007/2006 2.2 0.9 1.0 1.7

 World Consump- Consumer
 oil price tion prices
 ($) (b) deflator index

2000 27.2 96.4 97.6
2001 23.6 98.5 98.8
2002 24.4 100.0 100.0
2003 27.8 102.0 101.4
2004 35.9 103.3 102.7
2005 51.8 105.3 104.8
2006 61.1 107.8 107.0
2007 57.8 110.0 109.1

Percentage changes

2000/1999 56.4 1.1 0.8
2001/2000 -13.4 2.3 1.2
2002/2001 3.4 1.5 1.3
2003/2002 14.1 2.0 1.4
2004/2003 29.1 1.3 1.3
2005/2004 44.3 2.0 2.1
2006/2005 18.0 2.3 2.1
2007/2006 -5.4 2.1 2.0

 Retail price index

 GDP
 All Excluding deflator
 items mortgage (market
 interest prices)

2000 96.6 95.8 94.8
2001 98.4 97.8 97.0
2002 100.0 100.0 100.0
2003 102.9 102.8 102.9
2004 106.0 105.1 105.0
2005 109.0 107.5 107.3
2006 112.0 110.3 109.9
2007 114.9 113.0 112.3

Percentage changes

2000/1999 2.9 2.1 1.2
2001/2000 1.8 2.1 2.3
2002/2001 1.6 2.2 3.1
2003/2002 2.9 2.8 2.9
2004/2003 3.0 2.2 2.1
2005/2004 2.8 2.3 2.2
2006/2005 2.8 2.6 2.4
2007/2006 2.6 2.5 2.2

Notes: (a) Excluding food, beverages, tobacco and
petroleum products. (b) Per barrel, average of Dubai and
Brent spot prices.

Table 4. Gross domestic product and components of expenditure

 [pounds sterling] billion, 2002 price

 Final consumption Gross capital
 expenditure formation

 Households General Gross Changes in
 & NPISH (a) gov't fixed in- inven-
 vestment tories (b)

2000 650.4 198.6 163.7 5.3
2001 670.1 202.0 167.6 6.6
2002 693.4 211.0 172.6 3.1
2003 711.1 220.4 172.6 4.6
2004 736.5 227.4 181.5 5.9
2005 749.7 229.7 187.4 4.1
2006 765.0 234.9 194.8 4.4
2007 781.9 241.0 202.7 4.8

Percentage changes

2000/1999 4.6 3.7 3.5 -0.1
2001/2000 3.0 1.7 2.4 0.1
2002/2001 3.5 4.4 3.0 -0.3
2003/2002 2.6 4.5 0.0 0.1
2004/2003 3.6 3.2 5.2 0.1
2005/2004 1.8 1.0 3.3 -0.2
2006/2005 2.0 2.3 3.9 0.0
2007/2006 2.2 2.6 4.1 0.0

Decomposition of growth in GDP (c)

2000 2.9 0.7 0.6 -0.1
2001 2.0 0.3 0.4 0.1
2002 2.3 0.9 0.5 -0.3
2003 1.7 0.9 0.0 0.1
2004 2.4 0.6 0.8 0.1
2005 1.2 0.2 0.5 -0.2
2006 1.4 0.5 0.7 0.0
2007 1.5 0.5 0.7 0.0

 Domestic Total Total
 demand exports final
 expendi-
 ture

2000 1018.0 266.5 1284.6
2001 1046.4 274.3 1320.8
2002 1080.0 274.9 1355.0
2003 1108.7 278.2 1386.8
2004 1151.3 291.0 1442.3
2005 1170.9 304.0 1474.9
2006 1199.0 318.2 1517.2
2007 1230.4 337.2 1567.6

Percentage changes

2000/1999 4.1 9.1 5.1
2001/2000 2.8 2.9 2.8
2002/2001 3.2 0.2 2.6
2003/2002 2.7 1.2 2.4
2004/2003 3.8 4.6 4.0
2005/2004 1.7 4.5 2.3
2006/2005 2.4 4.7 2.9
2007/2006 2.6 6.0 3.3

Decomposition of growth in GDP (c)

2000 4.1 2.3 6.5
2001 2.8 0.8 3.6
2002 3.3 0.1 3.3
2003 2.7 0.3 3.0
2004 4.0 1.2 5.2
2005 1.8 1.2 2.9
2006 2.5 1.3 3.7
2007 2.7 1.7 4.4

 Total GDP Net
 imports at trade
 market
 prices

2000 279.8 1005.5 -13.3
2001 293.2 1027.9 -18.9
2002 306.5 1048.5 -31.6
2003 312.0 1074.9 -33.8
2004 333.0 1109.1 -42.0
2005 347.3 1128.3 -43.3
2006 364.0 1154.0 -45.9
2007 383.0 1185.5 -45.8

Percentage changes

2000/1999 9.0 4.0 -0.1
2001/2000 4.8 2.2 -0.6
2002/2001 4.5 2.0 -1.2
2003/2002 1.8 2.5 -0.2
2004/2003 6.7 3.2 -0.8
2005/2004 4.3 1.7 -0.1
2006/2005 4.8 2.3 -0.2
2007/2006 5.2 2.7 0.0

Decomposition of growth in GDP (c)

2000 -2.4 4.0 -0.1
2001 -1.3 2.2 -0.6
2002 -1.3 2.0 -1.2
2003 -0.5 2.5 -0.2
2004 -2.0 3.2 -0.8
2005 -1.3 1.7 -0.1
2006 -1.5 2.3 -0.2
2007 -1.6 2.7 0.0

Notes: (a) Non-profit institutions serving households. (b) Including
acquisitions less disposals of valuables and quarterly alignment
adjustment. (c) Components may not add up to total GDP growth due to
rounding and statistical discrepancy included in GDP.

Table 5. External sector

 Exports Imports Net
 of goods of goods trade in
 goods

 [pounds sterling] billion, 2002 prices (a)

2000 184.8 212.4 -27.6
2001 189.7 224.0 -34.3
2002 186.5 233.6 -47.1
2003 186.0 238.2 -52.2
2004 188.5 254.4 -65.9
2005 201.9 268.0 -66.1
2006 213.4 282.5 -69.1
2007 226.0 297.1 -71.2

Percentage changes

2000/1999 12.2 9.3
2001/2000 2.7 5.4
2002/2001 -1.7 4.3
2003/2002 -0.3 2.0
2004/2003 1.3 6.8
2005/2004 7.1 5.4
2006/2005 5.7 5.4
2007/2006 5.9 5.2

 Exports Imports Net
 of of trade in
 services services services

 [pounds sterling] billion, 2002 prices (a)

2000 81.6 67.5 14.2
2001 84.5 69.2 15.3
2002 88.4 72.9 15.5
2003 92.1 73.8 18.4
2004 102.5 78.6 23.9
2005 102.1 79.3 22.8
2006 104.8 81.5 23.3
2007 111.3 85.9 25.4

Percentage changes

2000/1999 2.3 8.0
2001/2000 3.5 2.6
2002/2001 4.7 5.3
2003/2002 4.2 1.2
2004/2003 11.2 6.5
2005/2004 -0.4 0.9
2006/2005 2.7 2.8
2007/2006 6.2 5.3

 Export World Terms Current
 price trade (c) of trade (b) balance
 competitive-
 ness (d)

 2002=100 % of GDP

2000 100.0 96.8 98.0 -2.6
2001 96.2 97.8 97.3 -2.2
2002 100.0 100.0 100.0 -1.6
2003 100.6 103.9 101.1 -1.4
2004 102.8 113.0 100.9 -2.0
2005 100.1 120.1 99.4 -2.2
2006 102.0 127.1 99.5 -2.6
2007 101.5 135.1 99.7 -2.3

Percentage changes

2000/1999 -0.1 12.3 -0.8
2001/2000 -3.9 1.1 -0.7
2002/2001 4.0 2.2 2.8
2003/2002 0.6 3.9 1.1
2004/2003 2.2 8.7 -0.2
2005/2004 -2.6 6.4 -1.5
2006/2005 1.9 5.8 0.2
2007/2006 -0.5 6.3 0.1

Notes: (a) Balance of payments basis. (b) Ratio of average value of
exports to imports. (c) Weighted by import shares in UK export
markets. (d) A rise denotes a loss in UK competitiveness.

Table 6. Household income and expenditure

 Average (a) Compen- Total Gross
 earnings sation of personal disposable
 employees income income

 2002=100 [pounds sterling] billion, current prices

2000 91.9 532.0 842.2 646.1
2001 96.2 563.4 896.0 688.3
2002 100.0 588.6 921.5 710.1
2003 104.7 617.6 969.3 744.4
2004 109.1 648.8 1011.3 770.5
2005 113.9 683.4 1063.9 804.5
2006 119.0 716.6 1119.2 844.0
2007 124.4 752.1 1178.9 887.2

Percentage changes

2000/1999 5.5 7.6 6.5 6.0
2001/2000 4.6 5.9 6.4 6.5
2002/2001 4.0 4.5 2.8 3.2
2003/2002 4.7 4.9 5.2 4.8
2004/2003 4.2 5.0 4.3 3.5
2005/2004 4.4 5.3 5.2 4.4
2006/2005 4.5 4.9 5.2 4.9
2007/2006 4.5 5.0 5.3 5.1

 Real Final consumption Savings
 disposable expenditure ratio (c)
 income (b) Total Durable

 [pounds sterling] billion, per cent
 2002 prices

2000 670.5 650.4 69.0 5.0
2001 698.4 670.1 76.3 6.3
2002 710.1 693.4 80.4 4.8
2003 730.1 711.1 87.6 5.3
2004 745.9 736.5 94.6 4.4
2005 763.8 749.7 98.5 5.2
2006 783.2 765.0 102.7 5.7
2007 806.1 781.9 107.2 6.4

Percentage changes

2000/1999 4.8 4.6 9.2
2001/2000 4.2 3.0 10.6
2002/2001 1.7 3.5 5.4
2003/2002 2.8 2.6 8.9
2004/2003 2.2 3.6 8.0
2005/2004 2.4 1.8 4.1
2006/2005 2.5 2.0 4.2
2007/2006 2.9 2.2 4.5

Notes: (a) Average earnings equals total labour compensation divided
by the number of workforce employee jobs. (b) Deflated by consumers'
expenditure deflator. (c) Includes adjustment for change in net
equity of households in pension funds.

Table 7. National and sectoral saving As a percentage of GDP

 Household sector Company sector

 Saving Investment Saving Investment

2000 3.5 4.1 8.6 12.2
2001 4.5 4.4 8.1 11.6
2002 3.3 4.8 11.7 10.6
2003 3.7 5.0 12.3 9.7
2004 3.0 5.3 13.0 9.8
2005 3.6 5.5 11.7 9.5
2006 4.0 5.6 10.9 9.6
2007 4.4 5.6 10.8 9.7

 Government sector Whole economy

 Saving Investment Saving Investment

2000 2.9 1.2 15.0 17.5
2001 2.5 1.3 15.1 17.3
2002 0.2 1.4 15.2 16.8
2003 -1.2 1.6 14.9 16.3
2004 -1.1 1.7 14.9 16.9
2005 -0.5 2.0 14.8 17.0
2006 0.0 2.3 14.8 17.4
2007 0.2 2.4 15.4 17.7

 Finance from abroad

 Total Net factor
 income

2000 2.6 -0.5
2001 2.2 -1.1
2002 1.6 -2.2
2003 1.4 -2.3
2004 2.0 -2.3
2005 2.2 -2.7
2006 2.6 -2.5
2007 2.3 -2.6

Table 8. Fixed investment and capital

 [pounds sterling] billion, 2002 prices

 Gross fixed investment

 Business Private General Total
 investment housing (a) government

2000 108.2 43.4 12.0 163.7
2001 109.8 43.5 14.0 167.6
2002 110.2 46.9 15.5 172.6
2003 107.7 46.8 18.0 172.6
2004 111.4 49.9 20.3 181.5
2005 113.8 50.2 23.4 187.4
2006 117.9 50.4 26.4 194.8
2007 123.0 51.1 28.6 202.7

Percentage changes

2000/1999 4.5 -0.6 6.3 3.5
2001/2000 1.5 0.3 16.7 2.4
2002/2001 0.3 7.6 10.8 3.0
2003/2002 -2.2 -0.1 15.9 0.0
2004/2003 3.3 6.5 12.7 5.2
2005/2004 2.2 0.7 15.4 3.3
2006/2005 3.6 0.4 12.9 3.9
2007/2006 4.3 1.3 8.2 4.1

 User Corporate
 cost profit Capital stock
 of share of
 capital (%) GDP (%) Private Public (b)

2000 13.9 24.9 1846.7 438.3
2001 13.3 23.8 1902.5 444.4
2002 13.8 24.9 1935.6 471.5
2003 14.0 25.4 2001.6 462.3
2004 14.3 25.8 2051.9 472.7
2005 14.4 25.2 2115.3 480.2
2006 14.4 26.0 2179.6 490.4
2007 14.6 26.0 2246.2 502.5

Percentage changes

2000/1999 3.5 -0.2
2001/2000 3.0 1.4
2002/2001 1.7 6.1
2003/2002 3.4 -2.0
2004/2003 2.5 2.2
2005/2004 3.1 1.6
2006/2005 3.0 2.1
2007/2006 3.1 2.5

Notes: (a) Includes private sector transfer costs of non-produced
assets. (b) Including public sector non-financial corporations.

Table 9. Output and productivity 2002=100

 Output

 Whole economy Manufacturing

2000 96.4 104.6
2001 98.3 103.1
2002 100.0 100.0
2003 102.5 100.0
2004 105.6 101.9
2005 107.4 101.3
2006 109.8 102.6
2007 112.8 105.1

Percentage changes

2000/1999 4.1 2.4
2001/2000 2.0 -1.4
2002/2001 1.7 -3.1
2003/2002 2.5 0.1
2004/2003 3.0 1.9
2005/2004 1.7 -0.6
2006/2005 2.3 1.3
2007/2006 2.7 2.4

 Productivity

 Whole economy Manufacturing
 (per hour)

2000 97.2 95.3
2001 98.2 98.1
2002 100.0 100.0
2003 102.0 105.0
2004 104.5 111.7
2005 105.1 115.6
2006 106.9 120.0
2007 109.5 124.6

Percentage changes

2000/1999 3.8 5.7
2001/2000 1.0 2.9
2002/2001 1.8 1.9
2003/2002 2.0 5.0
2004/2003 2.4 6.4
2005/2004 0.5 3.5
2006/2005 1.7 3.8
2007/2006 2.5 3.8

 Capacity utilisation
 Output gap (a) (industry)

 per cent

2000 0.7 95.5
2001 0.2 93.9
2002 -0.3 90.9
2003 -0.3 90.6
2004 0.5 95.5
2005 -0.1 96.3
2006 -0.3 96.9
2007 0.0 97.4

Percentage changes

2000/1999
2001/2000
2002/2001
2003/2002
2004/2003
2005/2004
2006/2005
2007/2006

Note: (a) Calculated using an approximate band pass filter on
historical data and our projection of GDP: see p. 101 of Massmann,
M., Mitchell, J. and Weale, M. (2003), 'Business cycles and turning
points: a survey of statistical techniques', National Institute
Economic Review, no. 183, January.

Table 10. The labour market Thousands

 Workforce jobs Claimant Workforce (b)
 unemploy-
 Employees Total (a) ment

2000 25698 29543 1088 30631
2001 26013 29842 970 30812
2002 26133 30015 947 30962
2003 26183 30301 933 31234
2004 26396 30579 854 31433
2005 26634 30801 860 31661
2006 26729 30895 943 31838
2007 26845 31006 1024 32030

Percentage changes

2000/1999 1.9 1.5 -12.8 0.9
2001/2000 1.2 1.0 -10.9 0.6
2002/2001 0.5 0.6 -2.4 0.5
2003/2002 0.2 1.0 -1.4 0.9
2004/2003 0.8 0.9 -8.5 0.6
2005/2004 0.9 0.7 0.7 0.7
2006/2005 0.4 0.3 9.6 0.6
2007/2006 0.4 0.4 8.6 0.6

 Underutilisation %
 Population
 of working ILO unem- Claimant Population
 age ployment rate not employ-
 rate ed rate (c)

2000 36138 5.5 3.6 18.3
2001 36406 5.1 3.1 18.0
2002 36622 5.2 3.1 18.0
2003 36828 5.0 3.0 17.7
2004 37064 4.8 2.7 17.5
2005 37373 4.8 2.7 17.6
2006 37636 5.0 3.0 17.9
2007 37795 5.3 3.2 18.0

Percentage changes

2000/1999 0.6
2001/2000 0.7
2002/2001 0.6
2003/2002 0.6
2004/2003 0.6
2005/2004 0.8
2006/2005 0.7
2007/2006 0.4

Notes: (a) Includes self-employed, HM Forces and government-supported
trainees. (b) Workforce jobs plus claimant unemployment. (c) One less
ratio of workforce jobs to population of working age (multiplied
by 100).

Table 11. Public sector financial balance and borrowing requirement

 [pounds sterling] billion, fiscal years

 2004-5 2005-6

Current
 receipts: Taxes on income 283.0 309.1
 Taxes on expenditure 154.5 160.0
 Other current receipts 9.6 8.2
 Total 447.1 477.4
 (as a % of GDP) 38.0 39.0

Current
 expenditure: Goods and services 251.0 266.0
 Net social benefits paid 138.2 145.0
 Debt interest 24.5 25.4
 Other current expenditure 38.9 38.9
 Total 452.6 475.3
 (as a % of GDP) 38.4 38.9

Depreciation 14.9 15.5

Surplus on public sector current
 budget (a) -20.3 -13.5
(as a % of GDP) -1.7 -1.1

Gross investment 30.7 35.0
Net investment 19.2 22.7
(as a % of GDP) 1.6 1.9

Total managed expenditure 486.6 513.5
(as a % of GDP) 41.3 42.0

Public sector net borrowing 39.5 36.1
(as a % of GDP) 3.4 3.0

Financial transactions 0.8 -4.1
Public sector net cash requirement 38.7 40.3
(as a % of GDP) 3.3 3.3
Public sector net debt (% of GDP) 35.0 36.8

GDP deflator at market
prices (2002=100) 105.6 107.9
Money GDP 1177.2 1223.4

Financial balance under Maastricht
 (calendar year, % of GDP) -3.2 -3.1
Gross debt under Maastricht
 (calendar year, % of GDP) 41.4 43.2

 2006-7 2007-8 2008-9

Current
 receipts: Taxes on income 331.1 352.1 371.0
 Taxes on expenditure 168.1 175.4 183.3
 Other current receipts 9.3 9.6 10.5
 Total 508.5 537.1 564.8
 (as a % of GDP) 39.6 39.9 40.0

Current
 expenditure: Goods and services 281.1 298.9 312.7
 Net social benefits paid 153.2 160.9 167.6
 Debt interest 25.8 26.7 27.9
 Other current expenditure 41.1 40.5 40.7
 Total 501.1 527.0 548.8
 (as a % of GDP) 39.0 39.1 38.8

Depreciation 16.4 17.3 18.3

Surplus on public sector current
 budget (a) -9.0 -7.2 -2.3
(as a % of GDP) -0.7 -0.5 -0.2

Gross investment 40.2 43.4 47.0
Net investment 27.4 29.7 32.0
(as a % of GDP) 2.1 2.2 2.3

Total managed expenditure 545.0 574.0 599.1
(as a % of GDP) 42.4 42.6 42.4

Public sector net borrowing 36.4 36.9 34.3
(as a % of GDP) 2.8 2.7 2.4

Financial transactions -2.8 -1.8 -1.0
Public sector net cash requirement 39.2 38.7 35.3
(as a % of GDP) 3.1 2.9 2.5
Public sector net debt (% of GDP) 37.7 38.5 38.8

GDP deflator at market
prices (2002=100) 110.6 112.9 115.4
Money GDP 1284.9 1347.5 1413.2

Financial balance under Maastricht
 (calendar year, % of GDP) -2.8 -2.7 -2.6
Gross debt under Maastricht
 (calendar year, % of GDP) 44.2 45.0 45.6

 2009-10 2010-11

Current
 receipts: Taxes on income 389.7 410.4
 Taxes on expenditure 191.6 200.6
 Other current receipts 10.0 9.8
 Total 591.4 620.7
 (as a % of GDP) 39.9 39.9

Current
 expenditure: Goods and services 326.6 341.9
 Net social benefits paid 173.8 181.8
 Debt interest 29.2 30.2
 Other current expenditure 42.2 43.9
 Total 571.8 597.9
 (as a % of GDP) 38.6 38.4

Depreciation 19.3 20.1

Surplus on public sector current
 budget (a) 0.3 2.7
(as a % of GDP) 0.0 0.2

Gross investment 50.3 53.7
Net investment 33.2 35.5
(as a % of GDP) 2.2 2.3

Total managed expenditure 624.2 653.6
(as a % of GDP) 42.1 42.0

Public sector net borrowing 32.8 32.9
(as a % of GDP) 2.2 2.1

Financial transactions -1.0 -1.0
Public sector net cash requirement 33.8 33.9
(as a % of GDP) 2.3 2.2
Public sector net debt (% of GDP) 39.0 39.0

GDP deflator at market
prices (2002=100) 118.0 120.7
Money GDP 1481.6 1555.7

Financial balance under Maastricht
 (calendar year, % of GDP) -2.2 -2.1
Gross debt under Maastricht
 (calendar year, % of GDP) 45.9 45.9

Notes: These data are constructed from seasonally adjusted national
accounts data. This results in differences between the figures here
and unadjusted fiscal year data. (a) Public sector current budget
surplus is total current receipts less total current expenditure and
depreciation.

Table 12. Cumulated public sector current
budget balance Fiscal years

 NIESR

 [pounds sterling] bn (a) Average % of
 money GDP (b)

1997-8 -1.2 -0.2
1998-9 9.1 0.5
1999-0 29.4 1.1
2000-1 51.0 1.4
2001-2 61.3 1.3
2002-3 48.3 0.9
2003-4 27.2 0.5
2004-5 7.5 0.2
2005-6 -4.4 0.1
2006-7 -11.6 0.0
2007-8 -17.1 -0.0
2008-9 -17.5 -0.0

 Pre-Budget 2005 (c)

 [pounds sterling] bn Average % of
 money GDP

1997-8 -1.2 -0.2
1998-9 9.1 0.5
1999-0 29.4 1.1
2000-1 51.0 1.4
2001-2 61.3 1.3
2002-3 48.3 0.9
2003-4 27.2 0.5
2004-5 7.7 0.2
2005-6 -2.9 0.1
2006-7 -6.9 0.1
2007-8 -6.9 0.0
2008-9 0.1 0.1

Notes: (a) These numbers are calculated from the seasonally
unadjusted public sector finance statistics and our forecast for the
current budget surplus, reported in table 11, adjusted for the average
discrepancy between the public sector finance statistics and the
seasonally adjusted national accounts data, measured as a percentage
of money GDP, over the past five years. (b) These numbers are based
on our forecast for the current budget surplus as a percentage of GDP,
reported in table II, adjusted for the average annual difference
between the public sector finance statistics and the seasonally
adjusted national accounts data over the past five years. (c) These
numbers are calculated from the seasonally unadjusted public sector
finance statistics and the latest Treasury forecast presented in
Pre-Budget 2005.

Table 13. Wealth [pounds sterling] billion

 Household sector

 Financial Financial Net
 assets liabilities financial
 assets

2000 3117.4 734.4 2383.0
2001 2922.3 810.4 2111.9
2002 2680.7 923.1 1757.6
2003 2930.3 1047.4 1882.9
2004 3156.8 1172.6 1984.1
2005 3522.8 1278.7 2244.2
2006 3913.6 1394.7 2518.9
2007 4210.8 1521.9 2688.9

Percentage changes

2000/1999 -0.3 8.8 -2.8
2001/2000 -6.3 10.4 -11.4
2002/2001 -8.3 13.9 -16.8
2003/2002 9.3 13.5 7.1
2004/2003 7.7 12.0 5.4
2005/2004 11.6 9.0 13.1
2006/2005 11.1 9.1 12.2
2007/2006 7.6 9.1 6.7

 Household sector

 Housing Net worth House
 wealth to income prices (b)
 ratio (a)

 2002=100

2000 2014.9 6.5 79.6
2001 2162.9 6.0 86.1
2002 2617.0 5.9 100.0
2003 2919.7 6.1 115.7
2004 3271.1 6.5 129.4
2005 3346.5 6.6 136.5
2006 3480.6 6.7 140.9
2007 3601.8 6.7 145.7

Percentage changes

2000/1999 14.3 14.9
2001/2000 7.3 8.1
2002/2001 21.0 16.1
2003/2002 11.6 15.7
2004/2003 12.0 11.9
2005/2004 2.3 5.4
2006/2005 4.0 3.2
2007/2006 3.5 3.4

 Whole economy net
 financial assets (c)

 Total Per cent
 of national
 income

2000 -34.9 -3.6
2001 -72.1 -7.1
2002 -48.3 -4.5
2003 -65.4 -5.7
2004 -145.5 -11.9
2005 -212.6 -17.1
2006 -207.6 -15.8
2007 -255.3 -18.5

Percentage changes

2000/1999 -45.7
2001/2000 106.6
2002/2001 -33.0
2003/2002 35.3
2004/2003 122.5
2005/2004 46.2
2006/2005 -2.4
2007/2006 23.0

Notes: (a) Net worth is defined here as housing wealth plus net
financial assets. (b) Office of the Deputy Prime Minister,
mix-adjusted. (c) Net overseas assets.

Table 14. Long-term projections All figures percentage change unless
otherwise stated

 2003 2004 2005 2006

GDP (market prices) 2.5 3.2 1.7 2.3
Average earnings 4.7 4.2 4.4 4.5
GDP deflator (market prices) 2.9 2.1 2.2 2.4
Consumer Prices Index 1.4 1.3 2.1 2.1
Manufacturing productivity 5.0 6.4 3.5 3.8
Whole economy productivity (a) 2.0 2.4 0.5 1.7
Labour input (b) 0.4 0.6 1.2 0.5
ILO unemployment rate (%) 5.0 4.8 4.8 5.0
Current account (% of GDP) -1.4 -2.0 -2.2 -2.6
Total managed expenditure
 (% of GDP) 40.5 41.0 41.9 42.3
Public sector net borrowing
 (% of GDP) 3.3 3.2 3.2 2.8
Public sector net debt
 (% of GDP) 32.2 34.0 35.9 37.1
Effective exchange rate
 (2000=100) 98.3 103.5 101.9 100.6
3 month interest rates (%) 3.7 4.6 4.7 4.5
10 year interest rates (%) 4.5 4.9 4.4 4.1

 2007 2008 2009 2010-14

GDP (market prices) 2.7 2.6 2.5 2.4
Average earnings 4.5 4.3 4.3 4.3
GDP deflator (market prices) 2.2 2.2 2.2 2.3
Consumer Prices Index 2.0 2.0 2.0 2.0
Manufacturing productivity 3.8 3.2 2.8 2.6
Whole economy productivity (a) 2.5 2.3 2.2 2.2
Labour input (b) 0.2 0.3 0.3 0.1
ILO unemployment rate (%) 5.3 5.3 5.2 5.3
Current account (% of GDP) -2.3 -2.0 -1.8 -1.6
Total managed expenditure
 (% of GDP) 42.6 42.5 42.2 42.0
Public sector net borrowing
 (% of GDP) 2.7 2.6 2.3 2.0
Public sector net debt
 (% of GDP) 37.9 38.6 38.9 39.1
Effective exchange rate
 (2000=100) 100.2 99.9 99.6 99.2
3 month interest rates (%) 4.3 4.3 4.3 4.3
10 year interest rates (%) 4.1 4.2 4.2 4.4

Notes: (a) Per hour. (b) Total hours worked.