Conflicting Forces
A Happy New Year to our readers! Below we take a look back at 2024 and set out what economists think 2025 could look like. The story looks set to be one of conflicting forces – sticky inflation set against gradual rate cuts, a tight labour market, but with big rises in National Insurance Contributions and minimum wages coming. And there’s plenty of outstanding questions – what will Trump tariffs look like and when will they bite, if at all? How will countries like France and Germany break their domestic political deadlocks? Are consumer willing to be a little less cautious and spend a bit more freely? As ever, we’ll do our best to highlight what matters most.
Check out a glossary of key terms here.
What’s the story in the UK?
A year of two halves for economic growth. Like the first foray back into exercise after the seasonal celebrations, the economy started out 2024 strong but ran out of puff rather quickly. Budget-related uncertainty seemed to play a role. But there’s a nagging feeling that the UK’s structural shortcomings are weighing on growth, too. The latest PMI data for December points to a flat-lining economy after no growth in Q3 – far from stellar. Economists think the economy will put a bumpy H2 behind it, forecasting a 0.4% quarterly cadence for a 1.4% overall yearly gain in 2025. The Autumn Budget announcements should ensure a helping hand from government spending. While investment intentions suggest business investment should chip in. But the consumer will be critical – can UK households be persuaded to part with a bit more of their cash?
The central banking balancing act. 2024 marked the beginning of rate cutting cycles across the world’s central banks. A year ago economists anticipated the Bank of England would begin cutting rates in August (they did) and two further cuts would follow before year-end (ultimately, it was only one). So they weren’t far off. That gradual pace looks set to continue judging by the Bank of England’s meeting just before Christmas. Economists think there will be one cut per quarter through 2025, with the next coming in February. There are risks on both sides. A stronger recovery in consumer spending and hike in the living wage may keep inflation and rates higher for longer. On the downside, greater than expected weakening in the labour market (for example, sparked by business reaction to the NI hike) might prompt a slightly quicker pace of cuts.
Stubborn inflation rolls on. This time last year inflation was about 4%, trending down from the nosebleed heights reached in 2022. As anticipated, it fell further in ’24. But the last mile is proving stubborn. And it’s been edging up since the autumn, reaching 2.6% in November. There’s been only modest progress on bringing services inflation back to a level consistent with the broader inflation target, with a 5% figure registered for November. Partly as a consequence, economists think that the 2% inflation target will remain elusive for some time yet, estimating inflation will hover around 2.5% through this year. And risks abound. Businesses have a 6.7% hike in the living wage to absorb. And gas prices will be worth keeping an eye on. Benchmark indices have doubled since last February (mercifully they remain nowhere near the ’22 spike).
The labour market has again proven resilient. That too was largely anticipated. Economists thought there would be a gradual rise in the unemployment rate to close to 5% through 2024. The latest data has it clocking in at 4.3%. Granted, there remain question marks over ethe data. A low response rate has undermined trust in the labour force survey (the source of the headline unemployment data). No doubt the labour market cooled. The number of PAYE employees has levelled off while a separate survey suggests similar. But it’s hard to argue it’s meaningfully deteriorating. Redundancies remain low and the ratio of vacancies to unemployed (although falling) suggests the labour market remains tight. Still, some caution is warranted. Hiring intentions have taken a dent. While higher payroll taxes might go on blunting job growth through 2025.
The sweet spot for wage growth normalises. One area that has performed more strongly than expected is earnings. Or to put it another way, like inflation, it’s taking longer to come back down to Earth. Having been growing at close to 6% at the start of 2024, economists anticipated a rate of below 4% by the end of the year. But the latest data has wage growth at 5.2% in the three months to October. With much lower inflation real earnings growth has been unusually strong. Looking to 2025, a further slowdown in wage growth should unfold, but surveys suggest it will continue to be gradual. Economists are pencilling in a rate of around 3.5%, edging out inflation and so keeping real income growth firmly positive.
What’s the story in US, Eurozone and China?
US confounds the naysayers, but cracks begin to show. Viewed through a European lens the performance of the US economy remained extraordinary, with economic output around 12% above its pre-Covid level. Compare that to the UK’s 3% and Germany’s 0.1%. A very healthy 3% pace of GDP growth in 2024 was built on the back of a strong consumer as the stock market rally bolstered wealth effects even as wage growth cooled and Covid savings depleted. But last year we learned that headline payroll growth numbers had been overstating the strength of the labour market. That’s a critical legacy issue that will shape the outlook in 2025. So too will inflation. Economists expect the 2% target to remain elusive, rather like the UK. No surprise then only three further interest rate cuts are anticipated. Trump’s impact on the economy is already visible, pulling in different directions. The prospect of lower taxes and deregulation appears to have awakened animal spirits, but the accompanying higher rates will weaken housing and other rate-sensitive areas.
Eurozone reclaims familiar ground. The eurozone had a familiar feel to it in 2024 – weak growth, policy support, political uncertainty and growing concerns from markets over borrowing levels amongst some members. Germany’s structural problems became ever more acute amidst elevated energy costs and a loss of competitiveness in key industries. While rules put in place to limit borrowing have left that country’s efforts to leverage public sector resources hamstrung. Tariffs are a key risk with Trump threatening 20% levies on European exports. Again, Germany would potentially have a lot to lose with its automotive, pharma and machinery sectors exposed. Just their threat is likely weighing on activity and investment decisions. Economists are forecasting growth of just 1% in ’25 (after an estimated 0.8% in ’24). So not much growth, and plenty of risk. But there are bright spots. Spain’s economy continues to fire, buoyed by service exports and EU recovery funds.
China hopes for policy traction. Chinese policymakers attempted to call time on the country’s multi-year slowdown last September, announcing a suite of proposals to boost economic activity. The effect disappointed, leading to a further commitment in December to use “extraordinary countercyclical” measures. China’s problems are pronounced. And deflation (yes that’s right, deflation) is a reflection of that weakness. Producer prices have been falling for two years with economists not expecting that to change until late ‘25. Consumer price inflation is barely positive and the forecast is for a mere 1% rate. Putting a floor under the property sector rout is proving difficult. Residential sales fell 6% in 2023 and further whopping 20% in the first 11 months of 2024. Still, economists are forecasting GDP growth of 4.5% in ’25, a small slowdown from 4.8% in ’24.